The following report was written by Messari Hub Analyst(s) and commissioned by Secret Network, a member of Messari Hub. For additional information, please see the disclaimers following the article
“The inevitable endpoint of crypto is maximum decentralization and maximum privacy.”
Crypto is redefining the power dynamics for the next evolution of finance and application creation. It introduces a bottom-up approach to building new financial infrastructure, allowing users to police network activity and help dictate the direction of each project. Unlike the financial and capital formation systems that govern us today, users themselves wield the power.
Public blockchains like Bitcoin and Ethereum operate according to these standards. Bitcoin was created in part to provide a check on central bankers that are prone to mismanaging money supplies and abusing their immense power. Ethereum unlocked the ability to create globally accessible programmable applications that can be governed by a community of token holders and open-source contributors. These models created the conditions for realizing the first part of Naval’s thesis for crypto: maximum decentralization.
However, while Bitcoin and Ethereum excel at distributing power to the many, their current public-by-default designs will likely not provide a full solution for Naval’s second outcome - maximum privacy - now or anytime soon.
This lack of user privacy stands out starkly in the modern age of surveillance capitalism and state-level surveillance. The transparency of Bitcoin and Ethereum may only feed into these existing concerns. They enable end-to-end surveillance on every financial transaction for each wallet, and supplementary solutions like mixers face liquidity and usability challenges that may limit the level of privacy they can offer.
Privacy coins like Monero and Zcash sprung up to address these issues. They use complex cryptography to obfuscate transaction details, thereby preserving user privacy and increasing security. But they fall short in meeting the demands of DeFi users since neither supports smart contracts at this time, creating a gap in the market.
Secret Network aims to fill this void. It’s one of the first blockchains to support programmable smart contracts with privacy by default, which launched on the Secret mainnet in September 2020. Secret will face its fair share of hurdles trying to build up a user base, like overcoming users’ general apprehension towards sacrificing convenience over privacy. However, private smart contracts also introduce significant usability advantages and unlock important new use cases. As privacy graduates from a nice-to-have to a necessary feature for users of complex Web3 applications, Secret Network could be one of the sector leaders for private computation.
Privacy in Crypto
Privacy is far from assured on the blockchain. Transactions are at best pseudonymous, whichhackers andransomware attackers often realize at their expense. In short, crypto is a terrible shadow bank, an aspect that still seems to escape the United States’ political elite. This is generally a positive, at the very least from a law enforcement or tax perspective.
But there are legitimate personal privacy and security issues involved in day-to-day activities that the most popular public chains can’t easily solve.
Investment flows on the blockchain are relatively easy to track. Blockchain analytics vendors like Chainalysis have built unicorn companies dedicated to analyzing the movements or crypto transactions for exchanges and regulators. Websites like Nansen allow retail users to track the wallets of crypto’smost prominent investors, following their every deposit, token swap, and NFT purchase.
Source: Twitter
Investors, borrowers, and savers all deserve the secrecy they receive from regulated TradFi institutions. Think of, for example, sharing the information required for credit scoring. But the privacy solutions within crypto haven’t kept up with the rate of application development and user growth.
Besides its importance for DeFi, privacy is critical for a functional Web3, the whole point of which is to decentralize and privatize user data. Do we really want Facebook, TikTok or Spotify to know everything about us?
Source: WSJ.com.
Do we want all of our personal data easily available to centralized databases that can be hacked, and our identity or our funds stolen?
Should our purchase of every coffee or every use of an Uber be public knowledge? Once two people transact on the blockchain, they know each other’s public keys and can track the accounts associated with the person from then on. The radical transparency offered by public ledgers could be a significant hurdle to the mass adoption of crypto for payments - as well as a huge security risk.
Enter Secret Network
It’s possible to somewhat obfuscate the flow of crypto assets through privacy coins such as ZCash and Monero or Ethereum DApps such as Tornado Cash. But, as mentioned, privacy coins can’t satisfy the desire for anonymity or security within this new financial landscape. They are great for private exchange or store of wealth, but nothing more.
For a privacy network to appeal to users in the age of DeFi, its privacy features must also extend to the application layer.
Secret Network is one of the first privacy-focused smart contract platforms to launch. It’s a layer 1 blockchain built using Cosmos SDK and Tendermint BFT, a delegated Proof-of-Stake consensus protocol.
Like other Tendermint-based chains, Secret Network has a block time of around six seconds and can process thousands of transactions per second. The chain currently supports 50 active validators with an average of 167 delegators per node.
Secret has its roots in an MIT project called Enigma, which raised $45 million in a 2017 ICO to build privacy technologies for public blockchains. Secret Network was launched by the Enigma community as an independent Layer 1 blockchain based on Enigma’s research and technologies. The community also facilitated a swap between Enigma’s old ENG ERC-20 token and Secret’s native mainnet SCRT. Since the network’s hard fork to secret-2 on Sep. 15, 2020, private smart contracts with encrypted inputs, outputs, and state have been live on mainnet. This enabled early DeFi applications such as “secret tokens,” private versions of assets that are either native to Secret or bridged from other chains. The transaction data for these secret tokens remains encrypted within smart contracts and applications and inaccessible to onlookers and validators alike while still accessible to users.
The Secret Network uses Intel Software Guard Extensions (Intel SGX), which divides the protocol code into trusted and untrusted parts. The secure “enclave” component of the Trusted Execution Environment (TEE) executes the trusted code. TEEs are used in many devices, including smartphones and video game consoles, and act as a “black box” for computing encrypted data.
Secret Network TEEs maintain the integrity of any encryption layer, which ensures transaction data remains secure and private during execution, even to validators. The only way to view encrypted information is through a set of “viewing keys.” End-users have full control over these keys, which gives them access to private transaction details so that they can share them with other users or professionals like tax authorities.
The Secret Ecosystem
Secret Bridges
While privacy is Secret Network’s key feature, privacy alone isn’t enough to stand out in the highly competitive layer 1 landscape. A layer 1’s success will depend on the utility it can offer new users. A rich application ecosystem in a specific sector or multiple sectors compounds network utility and attractiveness for developers looking to make a living in crypto. But the problem is finding a way to bootstrap a new ecosystem from the ground up. It’s a classic chicken-and-egg problem since liquidity begets liquidity.
One of Secret Network’s key development strategies has been connecting to other networks with existing user bases and liquidity pools. With the right incentives structure, Secret Network can share in the activity generated by other blockchains without spending excess resources building a new economy from scratch. The project launched its first bridge on Dec. 15, 2020, establishing a necessary connection with Ethereum.
It has since deployed bridges to Binance Smart Chain (BSC) and Monero as well, with a communication gateway to Astar Network (a potential Polkadot parachain formerly called Plasm Network) in development, as well as a bridge to the fast-growing Terra ecosystem.
Interoperability was also a core reason Secret Network opted to build on the Cosmos SDK framework. The Cosmos SDK allows developers to add new functionality through plug-and-play modules. One of these modules implements the Inter-Blockchain Communication (IBC) protocol, allowing networks to communicate with other IBC-enabled chains. The SCRT token holder community has already signaled its support for Secret Network to adopt IBC, and the project intends to enable these cross-chain communication capabilities in the upcoming Supernova upgrade (expected for October 2021).
Wrapping ERC-20 and BEP-20 tokens or Monero requires bridging to Secret by locking into a bi-directional smart contract. Monero (XMR), for example, can be deposited in return for xXMR on Secret. Users can move funds in the opposite direction (back to Monero) by burning the xXMR token to unlock the native XMR on Monero. For chains other than Monero, bridging is not actually fully anonymous, however, and bridge transfers can be tracked on the native chain even though privacy is maintained on Secret Network.
Secret DeFi
Bridging to existing chains is a critical step. Crypto is undeniably a multi-chain universe at this point. Innovation doesn’t occur in isolation. But layer 1s also require a reason to draw attention and retain engagement in the first place. This reason could be a common objective or ethos among community members, like the need to preserve privacy, but it’s often an incentive-laden DeFi ecosystem that can lock in activity. Secret now supports a decentralized exchange (SecretSwap), a governance token for Secret’s DeFi sector (SEFI), and a peer-to-peer “auction” marketplace, which form the basis of the chain’s application ecosystem.
Secret Network applications utilize a unique flavor of smart contracts that the project calls “Secret Contracts.” Unlike the contracts used on Ethereum, these Secret Contracts can accept encrypted inputs and produce encrypted outputs while refraining from revealing each contract’s state (its internal database). In marketing speak, Secret Network packages the smart contract execution of Ethereum, the transactional privacy of Monero, and interoperability offered by Cosmos SDK chains.
While transaction privacy is one simple outcome of having smart contracts with baked-in secrecy, Secret Contracts have the benefit of minimizing miner extractable value (MEV) due to their encrypted state.
MEV is at the center of many concerns and intrigue within Ethereum due to its security and UX implications. Since Ethereum is fully transparent, a miner can see incoming transactions and either change the order of transactions or submit a competing one that would favor the miner financially. In contrast, the secret nature of Secret Network hides transaction data from validators in addition to blockchain analytics tools (like block explorers), preventing validators from being able to reorder transactions or execute front-running attacks.
Of note, Secret Network’s native SCRT token is not a privacy coin. All SCRT transactions are public, similar to BTC or ETH. Like most new layer 1s, SCRT serves as the core governance and staking token for the network. Its primary functions include voting on protocol changes, paying gas fees, and staking (either as a validator or delegator) to help secure the chain. The secret portion of Secret Network lies in its ability to hide the transaction history and state changes of tokens and contracts running on the network.
Secret NFTs
Secret Network’s privacy properties can extend to multiple token types, including NFTs. In April 2021, the recipient of the network’s first community grant unveiled a reference implementation on mainnet for a Secret NFT standard (SNIP-721). Like its fungible counterpart, Secret NFTs inherit the same privacy characteristics when being transfered or processed by Secret contracts.
Making NFTs a priority is a logical move for Secret Network or any new platforms in the wake of a red-hot NFT market. NFT creations and sales have gone parabolic over the last eight months, as illustrated by the monthly trading volumes on popular NFT marketplace OpenSea.
While Ethereum has been the epicenter of NFT activity to date, its rising transaction costs have likely priced out a significant portion of the crypto population. Ethereum’s scalability constraints have finally created the perfect opportunity for new, low-cost layer 1s to soak up users and use cases that can no longer stomach Ethereum’s fees. Secret Network stands to benefit from this situation, but competing on minimizing fees is a highly competitive market. Where Secret Network can stand out from the crowd is through the advantages Secret NFTs bring to the table.
Secret NFTs assume the same characteristics as Ethereum’s ERC-721 tokens while offering three new features: the ability to (1) hide ownership of scarce items, (2) privatize the metadata field (how an NFT signature connects to off-chain data like art), and (3) control access to the connected content.
The first feature has a clear appeal. As unique and often scarce items, NFTs can be relatively easy to track using on-chain analytic tools. Secret Network’s privacy settings allow users to hold NFTs outside of the public view. The last two properties may enable new NFTs use cases (game items with hidden abilities or art embedded with secret links) and allow artists or marketplaces to customize access to their product (important for exclusive events or the adult entertainment industry).
The Secret Network NFT sector is small at the moment. Secret Heroes is the network’s inaugural game, and there’s an NFT marketplace in the works according to the project’s latest roadmap update. Despite its current level of adoption and late arrival to the scene, Secret could carve out a share of the NFT market by offering one of the only privacy-focused solutions for non-fungibles.
Ecosystem Progress
Secret’s ecosystem has gradually been attracting new users. Most arrived through the Ethereum bridge and its incentives program. While the value of these bridged assets has dropped significantly from its May 2021 high of almost $130 million, the recent rise of inbound activity from BSC shows that Secret Network is bouncing back after May’s market correction. Around 10% of bridged assets on Secret Network have come through BSC.
Source: Secret Analytics (Notes: Includes TVL and volume for both Ethereum and BSC bridges)
SecretSwap has been the primary DApp on the network. It has around $45 million in liquidity, up 2.7x from its late-July lows and closing in on its ATH from May, which is a welcome sign of recovery despite trading volumes gradually trending lower.
While SecretSwap lies at the center of Secret’s application ecosystem, the network’s small but growing array of tools like token minting contracts and games like Secret Heroes has on-chain activity on the rise. Daily transactions and fees paid (measured by gas used) have been trending up over the past three months, with daily transactions increasing 64% and gas used rising 75% from their July 2021 lows.
The key catalyst for SecretSwap and the rest of Secret’s application ecosystem will be the Supernova upgrade in October 2021, which will enable it to connect with other Cosmos chains and onboard new assets like Terra’s UST stablecoin.
Competitive Landscape
Secret’s path to fully implemented private smart contracts is groundbreaking. It is one of the first networks with support for issuing tokens with confidential properties and smart contract functionality that doesn’t compromise transaction privacy.
Each one of these privacy-focused layer 1s aims to offer a differentiating feature. Dero intends to support native assets (non-contract enabled tokens) and smart contracts, but remains in a testnet phase. Haven is a fork of Monero that seeks to support an ecosystem of tokens pegged to external assets, like a USD-pegged stablecoin. Phala is focusing on offering privacy within the Polkadot ecosystem.
Other privacy solutions come in the form of (1) privacy coins, (2) mixers, and (3) Ethereum-based contracts for shielding transactions.
For strictly private transactions and stores of value, Monero and Zcash are well-known privacy coins that use well-researched privacy techniques, but they sit in a regulatory grey area. Zcash has made some headway with U.S.-based exchanges, getting coveted listing slots on Coinbase and Gemini. However, Monero remains outside the comfort level of most regulators considering some exchanges have delisted XMR in the past due to legal concerns. Both Monero and Zcash are one-trick ponies. They handle private value transfer very well, but they currently don’t support smart contracts. Privacy without DeFi or Web3 is only a partial answer.
On-chain mixers like Tornado Cash break the chain in an asset’s transaction history. They make it difficult to match input and output transactions, giving users the same assets in a new wallet without the transaction baggage. Mixing is an effective but incomplete solution, however, as it gives users a fresh start but it doesn’t prevent users from being doxxed again. Additionally, mixers require significant liquidity to optimize privacy since transaction inputs must be the same size, making it possible to match transactions when input volumes are low.
For those who want to retain access to Ethereum’s ecosystem, Railgun, Aztec, and Offshift appear to be viable options. However, Aztec is not fully decentralized, and the other two involve significant technical challenges that have kept them far from mainnet launch.
In its favor, Secret has a first-mover advantage and the potential to become a trendsetter in the privacy space if it can continue to regain its momentum in this recent market upswing. Its early position in the interconnected Cosmos ecosystem could bode well for adoption. As the Ethereum community is well aware, DeFi is highly reflexive. A little momentum in terms of liquidity fueled by token incentives can snowball and lead to rapid adoption. The determining factor will be if Secret’s Supernova upgrade and the growing case for on-chain privacy can help the network become a gravity well for adoption.
How has Secret fared within the private computation sector YTD? SCRT has performed admirably against its lower market cap competition with a YTD return of 3.5x. These returns fall behind DERO at 25x and Phala at 7.7x but remain ahead of the rest of the pack.
In terms of fully-diluted valuations (or Y2025 supply for SCRT and PHA since neither has a supply cap), Secret is almost as high as Oasis, the largest project with the private computation sector by market cap. Dero’s recent run in price suggests it is being re-rated to match the valuations of the sector leaders. Phala has benefitted from the launch of Kusama parachain auctions and the overall growth of the Polkadot ecosystem, which is eagerly awaiting the launch of parachains on Polkadot.
Possibly due to various setbacks, the Ethereum-based solutions remain at low valuations. Haven’s recent exploit and chain rollback to address the issue has perhaps dented its appeal with investors.
The Future
Secret has dedicated substantial resources towards growing its application ecosystem and product offerings. The project and its community have established a Grants Program with 20 million SCRT to help fund applications building on the network. It has also completed an integration with Band Protocol, a necessary DeFi building block to provide price feeds for on-chain exchanges and other financial applications like lending and derivatives protocols. All of the development attention is on the upcoming Supernova upgrade, which will unlock the ability to connect with other lively Cosmos chains like Terra, Osmosis, and the Cosmos Hub.
But the Secret Network’s primary value prop is in its name: confidential computation. Privacy is difficult in crypto in terms of technical development, regulatory acceptance, and user adoption. Secret has tackled the first and developed solution to help address the second when the time arrives. However, user adoption of privacy solutions will be a significant hurdle because users often value convenience and familiarity over privacy.
Our privacy is under attack – in Web2 for some time and now in crypto. It may only get worse unless there’s a dramatic (and perhaps necessary) shift in consumer behavior. Do we value our privacy enough to rebuild DeFi ecosystems on a privacy-focused layer 1? Do we only value it slightly, using privacy networks as complementary services on an as-needed basis? Or do we succumb to the looming threat of state surveillance?
This report was commissioned by Secret Network. All content was produced independently by the author(s) and does not necessarily reflect the opinions of Messari, Inc. or the organization that requested the report. The commissioning organization may have input on the content of the report, but Messari maintains editorial control over the final report to retain data accuracy and objectivity. Author(s) may hold cryptocurrencies named in this report. This report is meant for informational purposes only. It is not meant to serve as investment advice. You should conduct your own research and consult an independent financial, tax, or legal advisor before making any investment decisions. Past performance of any asset is not indicative of future results. Please see our Terms of Service for more information.
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