September was a rough month for crypto investors, in particular for those betting big on ether, the token tied to the ethereum blockchain.
It’s difficult to link short-term price movements to any specific event, and with the historic rally in crypto over the past 12 months, pullbacks are to be expected. Ethereum, the second most-valuable cryptocurrency behind bitcoin, is still up about 830% in the past year.
Investors are now buying the September dip. On Friday, the first day of October, ether and bitcoin both climbed over 9%.
But the September roller-coaster reflects a particularly rocky stretch for the ethereum ecosystem, which has given investors and developers reasons for concern.
The speed of the network and high transaction fees continue to be a problem. The “London” upgrade in August was supposed to make transaction fees less volatile, but it’s had a limited effect.
Meanwhile, rival blockchains dubbed “ethereum killers” are taking advantage of ethereum’s challenges.
Ethereum also unexpectedly split into two separate chains in late August, after someone exploited a bug in the software that most people use to connect to the blockchain. That exposed the network to an attack, and not for the first time.
“All these factors could be having some impact on the speculation side, no doubt,” said Mati Greenspan, founder and CEO of Quantum Economics, in an interview. “But don’t forget that ethereum has appreciated quite handsomely so far this year and the entire market seems to be in consolidation at this time. So I wouldn’t try to read too deeply into these short-term movements.”
Still, ethereum, which serves as the primary building block for all sorts of crypto projects, like non-fungible tokens (NFTs), smart contracts and decentralized finance (DeFi), has some major hurdles to overcome to fend off the emerging competition.
A central premise of ethereum’s security stems from the existence of only one set of virtual books, meaning you can’t create coins out of thin air. That ledger has to work, because the decentralized nature of the blockchain means there’s no rule keeper or bank that sits in the middle of transactions to act as accountant.
Ethereum developers were rightly alarmed in August when the chain split because of a bug.
“This fork temporarily created two separate records of transactions on the ethereum network – like parallel books,” said Matt Hougan, chief investment officer at Bitwise Asset Management, which created the first cryptocurrency index fund.
For a while, it was unclear whether the split would lead to a “double-spend attack,” where the same token can be spent more than once and transactions can be reversed, Hougan said. Smart contracts overseeing billions of dollars in assets could have also been at risk. Smart contracts allow people to build applications on top of ethereum with self-executing code, eliminating the need of third parties to handle transactions.
Such an attack would have been difficult to execute, since it was clear which nodes were on the correct side of the split and which were not. “But in theory, there was a risk,” Hougan said.
The good news for miners and exchanges is that most of them upgraded their software as recommended and the issue was resolved relatively quickly, said Tim Beiko, the coordinator for ethereum’s protocol developers.
Auston Bunsen, co-founder of QuikNode, which provides blockchain infrastructure to developers and companies, said it was a “responsibly disclosed vulnerability.”
“This is a reminder that blockchains in general and ethereum specifically are new and disruptive technologies,” Hougan said. “They can do amazing things – settle $1 billion transactions in minutes and program money like software – but they are not fully mature.”
The longer-term problem for ethereum is that random glitches like this keep happening.
In April, the ethereum blockchain was hit with a bug in one of the software programs used to access it. And in November, many of ethereum’s DeFi apps temporarily went down after a Geth upgrade debacle, which led to the chain splitting in two.
Geth is short for for Go Ethereum. To access the ethereum blockchain, operators and miners have their pick of software. Most use Geth, which accounts for 64% of the network.
When the ethereum blockchain broke in half a few weeks ago, it was because Geth had a bug in its consensus mechanism. That’s what creates the single source of truth for transactions so everyone sees the same thing regardless of what software they’re using.
Developers discovered the bug, put out a new release with a fix and publicly told everyone to update. A lot of users upgraded, but others didn’t. When an unknown actor exploited the bug, ethereum forked, meaning that it broke into two separate chains: one for those who had updated their software and one for those who had not.
Ethereum “sought the veneer of decentralization by having many clients, but as a consequence, they have incompatibilities,” said Nic Carter, co-founder of blockchain data aggregator Coinmetrics.
When the software programs don’t talk to one another, it creates problems for the network.
Bitcoin takes a very different approach. It relies on a highly secure software program for nodes to access the blockchain. Bitcoin developers have long sought to avoid hard forks at all costs, so all changes in the core software tend to be opt in rather than pushed out to users, according to Carter.
“Ethereum prioritizes faster development, but that comes at the cost of a more fragile set of software implementations,” Carter said.
Some crypto experts attribute ethereum’s success to its first-mover advantage. Most NFTs and 78% of DeFi apps, or dApps, run on ethereum, according to the website State of The Dapps.
That’s starting to change, thanks to the growing popularity of rival blockchains.
Even before this latest split in the blockchain, users were complaining about ethereum’s heavy congestion and high transaction fees, which touched a record of $70 earlier this year, and just this week, bounced from $20 to $46 and back down to $32.
At current prices, fees continue to drive some users away.
They’re turning to blockchains like Cardano, a platform used to build dApps, and Solana, whose native coin has risen nearly 4,800% since September 2020. Launched last year, Solana is gaining traction in the NFT and DeFi ecosystems because it’s cheaper and faster to use than ethereum.
Solana processes 50,000 transactions per second, and its average cost per transaction is $0.00025, according to its website. Ethereum can only handle roughly 13 transactions per second and transaction fees are substantially more expensive than on Solana.
Institutional money is flowing. Solana just closed a $314 million private token sale led by Andreessen Horowitz and Polychain Capital.
Investors who had been largely focused on ethereum “have been increasingly diversifying their holdings to other cryptocurrencies, fueling alternative blockchains like Algorand, Solana and Cardano,” said Mark Peikin, CEO of Bespoke Growth Partners.
Bunsen tells CNBC that while Solana is making good strides in terms of being a usable blockchain, it’s not yet decentralized enough to satisfy the larger crypto community.
It’s also not immune to bugs. Last month, Solana suffered a 17-hour outage following a denial-of-service attack, which took the form of a flood of transactions caused by bots.
The list of so-called ethereum killers is long, and includes blockchains like Matic and Polygon, which are complementary to ethereum, according to Bunsen, as well Cardano, which is known for its security.
“I think some of those ethereum killers will make it,” said Bunsen. “But they won’t kill ethereum.”
Ethereum also has its own upgrade in the works. For several years, it’s been building ethereum 2.0, which is expected to be ready by the first quarter of 2022.
The makeover will move ethereum to a less energy-intensive mining process and, according to network founder Vitalik Buterin, could boost speed by over 7,000-fold to 100,000 transactions per second.
If it’s successful, Bunsen said, ethereum 2.0 will be a “huge upgrade in terms of throughput to the ethereum network and a huge win for the environment generally.”