Instead of speculating on bitcoin, the smart money has figured out that one of the surest ways to get rich quickly with cryptocurrencies is to be in early on initial coin offerings.
Hedge funds are proving to be first among equals when it comes to digital token sales by technology startups, receiving preferential discounts and terms and then often cashing out. While legal, the manoeuvre is drawing comparisons to some of the eyebrow-raising practices that took place during the IPO heyday of the 1990s, when many preferred investors would quickly resell shares for big profits.
“It’s not healthy for the ecosystem, and it’s pretty abusive,” said Kyle Samani, a managing partner at Austin, Texas- based Multicoin Capital, which invests in ICOs. “They are getting a discount because they are a big name, and they think it’s going to draw the retail investor. It’s the greater fools theory – I’ll buy it if there’s someone who’s more of a fool than me.”
Last week’s ICO by messaging app Kik Interactive Inc provides a window into how business is being conducted. Even though the Waterloo, Ontario-based company raised around $100mn from more than 10,000 contributors from 117 countries, hedge funds that got in early stand to benefit disproportionately.
Blockchain Capital, Pantera Capital and Polychain Capital, which together contributed $50mn in a Kik presale this summer before the actual ICO, received a 30% discount on their kin tokens, which will be used for commerce within Kik. They can sell 50% of their holdings at any time - potentially making a profit even if kin’s price bombs. 
If the value of the tokens continues to rise, their profits will be higher than regular investors’ when they cash out.
Startups often announce, with much fanfare, that such-and- such funds and big-name investors have participated in the presale. 
What isn’t as well publicised is that the early investors - and, possibly, even the startup’s founders - can often cash out right after the ICO Recently on Twitter, Samani called the practice of flipping a “bag holder,” where later investors are left holding the proverbial bag.
More than 80% of ICOs are doing presales, according to Lex Sokolin, global director of fintech strategy at Autonomous NEXT. For most of the 500 or so tokens launched and listed on exchanges this year, flipping “is very prevalent,” said Lucas Nuzzi, senior analyst at Digital Asset Research. “This has been a problem in this industry, and one of the reasons why there is an overwhelming amount of low-grade ICOs being launched.”
Some 148 startups have raised $2.2bn this year, according to CoinSchedule. And sorting winners from losers is already hard, since most startups are doing ICOs armed only with a white paper outlining their idea and not much else.
That’s raised red flags with authorities trying to figure out how to protect consumers in what’s been an unregulated corner of the markets. 
In July, the US Securities and Exchange Commission warned investors to beware of fraudulent practices and said any tokens sold as a stake in a company rather than ones tied to an application must abide by securities regulations.
“It would shock me if you don’t see pump-and-dump schemes in the initial coin offering space,” SEC Chairman Jay Clayton said Sept. 28. “This is an area where I’m concerned about what’s going to happen to retail investors.”
Many presale investors say they don’t plan to flip. Pantera only sold its position in one ICO, and is still holding 12 others, said Joey Krug, co-chief investment officer at Pantera. The fund hasn’t made any decisions on whether to sell or hold kin, he said.
“We believe in the product and think they are very cool,” Krug said. “We don’t buy tokens just to immediately sell them after the ICO. The point of investing before the sale adds to the returns. Discount is more icing on the cake.”
Blockchain Capital also tends to hold tokens for the long term, said Spencer Bogart, managing director at the firm. Olaf Carlson-Wee, CEO of Polychain, said the firm is also long-term focused since the majority of the value accrual comes after the projects go live.
“Sometimes if we see an investment pop 10 times, we may take at least the cost of the project out of our investment,” Bogart said. 
“The more you are perceived as flipping things, you are going to have trouble getting deal flow.”
Some participants say presales are a necessity. Startups often need access to capital to promote ICOs. Early investors also take on the risk that the ICO won’t go anywhere, said Michael Terpin, who does public relations for startups and also participates in presales as an investor. He said he might sell 2% to 4% of tokens received in a presale after the ICO, but holds on to the rest.
But the practice reminds some of the Internet IPO heyday - and makes them worry about the fallout. Remember, back then, venture capitalists and Wall Street analysts sung praises of various deals, and retail investors poured in, often overlooking holes in the companies’ financial and performance metrics. By the time the dot-com bubble burst, venture capitalists and Wall Street firms had made their money, while retail investors lost billlions.
“Back then companies were IPO-ing a dream,” said Tom Rikert, general partner in venture-capital firm NextWorld Capital, which invested in the Filecoin ICO “We are seeing a lot of that with ICOs, people raising money with a white paper instead of a PowerPoint.  There’s a ton of greed on the part of entrepreneurs, also greed on the buyer side.”
As the practices of ICO presales and flipping draw more scrutiny, investors - and even startups themselves - are demanding lockdown periods, so early investors and founders can’t quickly jump ship.
In some cases, startups can even chose to sell early investors the option, called Simple Agreement for Future Tokens (SAFT), to buy a token at a future date - instead of the actual token. Such options often can’t be sold until the startup launches its technology. 
Filecoin, which has raised $257mn, made such options only available to accredited investors. Other startups are axing presales altogether.
“I don’t like presales,” said JR Willett, who is credited with inventing the concept of ICOs in 2012. “They are giving this favoured status to a few insiders. I like it a lot better when we have everyone on equal footing.”


Related Story