DeFi and RWA "Identity Crisis": Donning the L1 Outer Layer, Can It Bring a Tech Premium?

Original Article Title: The Layer 1 Fallacy: Chasing Premium Without Substance

Original Article Author: Alexandra Levis, CoinDesk

Original Article Translation: DeepTech TechFlow

DeFi and RWA protocols are repositioning themselves as Layer 1 to achieve a valuation similar to infrastructure. However, Avtar Sehra argues that most DeFi and RWA protocols are still confined to a narrow application space, lacking sustainable economic benefits—the market is also starting to see through this.

In the financial market, startups have long tried to package themselves as "tech companies," hoping that investors would value them at multiples of tech companies. And this strategy often works—at least in the short term.

Traditional institutions have paid the price for this. Throughout the 2010s, many companies rushed to reposition themselves as tech companies. Banks, payment processors, and retailers started calling themselves fintech companies or data companies. However, few companies could achieve the valuation multiples of true tech companies—because their fundamentals often did not align with the narrative.

WeWork is one of the most representative examples: a real estate company disguised as a tech platform, ultimately collapsing under the weight of its own illusion. In the financial services sector, Goldman Sachs launched Marcus in 2016, a platform core to a digital-first approach aimed at competing with consumer fintech companies. Despite some early progress, the project was downsized in 2023 due to long-standing profitability issues.

JPMorgan once famously proclaimed itself a "tech company with a banking charter," while BBVA and Wells Fargo invested heavily in digital transformation. However, these efforts rarely achieved platform-level economies of scale. Today, such corporate tech fantasies lie in ruins—clearly reminding us that no matter how a brand is packaged, it cannot transcend the structural constraints of capital-intensive or regulated business models.

The crypto industry is now facing a similar identity crisis. DeFi protocols hope to achieve a valuation similar to Layer 1. RWA decentralized applications are trying to shape themselves as sovereign networks. Everyone is chasing the "tech premium" of Layer 1.

To be fair, this premium does exist. Layer 1 networks like Ethereum, Solana, and BNB have always enjoyed a higher valuation multiple compared to metrics such as Total Value Locked (TVL) and fee generation. These networks benefit from a broader market narrative—a narrative more inclined towards infrastructure rather than applications, more platform-focused rather than product-focused.

Even controlling for fundamental factors, this premium persists. Many DeFi protocols demonstrate strong TVL or fee generation capabilities, yet still struggle to reach the market capitalization equivalent to Layer 1. In contrast, Layer 1 attracts early users through validator incentives and native tokenomics, then expands into a developer ecosystem and composable application space.

Ultimately, this premium reflects Layer 1's extensive native token utility, ecosystem coordination ability, and long-term scalability. Furthermore, as fee scales grow, these networks' market capitalization typically shows disproportionate growth — indicating investors are considering not only current usage but also future potential and network effects.

This hierarchical flywheel mechanism — from infrastructure adoption to ecosystem growth — well explains why Layer 1's valuation always remains higher than decentralized applications (dApps), even though both their underlying performance metrics may seem similar.

This mirrors the distinction in the stock market between platforms and products. Infrastructure companies like AWS, Microsoft Azure, Apple's App Store, or Meta's developer ecosystem are not just service providers; they are ecosystems. These platforms enable thousands of developers and businesses to build, scale, and collaborate. Investors accord higher valuation multiples to these companies not just for current revenue but to support the potential for future emerging use cases, network effects, and economies of scale. In contrast, even highly profitable Software as a Service (SaaS) tools or niche services struggle to attain the same valuation premium — because their growth is constrained by limited API composability and narrow utility.

Today, this pattern is also playing out among large language model (LLM) providers. Most vendors are eager to position themselves as AI application infrastructure rather than mere chatbots. Everyone wants to be AWS rather than Mailchimp.

The Layer 1 in the crypto space follows a similar logic. They are not just blockchains but a coordination layer for decentralized computation and state syncing. They support a broad array of composable applications and assets, with their native tokens accruing value through underlying activities like Gas fees, staking, MEV, etc. More importantly, these tokens also serve as incentives for developers and users. Layer 1 benefits from a self-reinforcing cycle — forming interactions between users, developers, liquidity, and token demand while supporting cross-industry vertical and horizontal expansion.

In contrast, most protocols are not infrastructure but single-function products. Therefore, expanding the Validator Set does not make them a Layer 1 — it's just a way to justify a higher valuation by putting a veneer of infrastructure on the product.

This is precisely the background of the Appchain trend. An Appchain integrates applications, protocol logic, and settlement layers into a vertically integrated technology stack, promising better fee capture, user experience, and "sovereignty." In a few cases—such as Hyperliquid—these promises have been fulfilled. By controlling the entire technology stack, Hyperliquid has achieved fast execution, outstanding user experience, and significant fee generation—without relying on token incentives. Developers can even deploy dApps on its underlying Layer 1, leveraging its high-performance decentralized exchange infrastructure. Although its scope is still narrow, it has demonstrated some degree of broader scalability potential.

However, most Appchains are merely attempting to repackage protocols to assume a new identity. They lack real-world usage and deep ecosystem support. These projects often find themselves in a dilemma of dual focus: trying to build infrastructure while also aiming to create a product, but frequently lacking sufficient capital or teams to excel at either. The end result is a blurry hybrid—neither resembling a high-performance Layer 1 nor capable of being a defining category of decentralized application.

We've seen this scenario before. A sleek UI-driven Robo-Advisor is fundamentally still a wealth management service; an open API bank is still a balance-sheet-centric business; a shared office company with refined applications is ultimately in the business of leasing office space. Eventually, as market hype subsides, capital will reassess the value of these projects.

RWA protocols have now fallen into the same trap. Many protocols attempt to position themselves as the infrastructure for tokenized finance but lack substantial differentiation from existing Layer 1 solutions and sustainable user adoption. At best, they are vertically integrated products that lack a genuine need for a separate settlement layer. Worse still, most protocols have yet to achieve product-market fit in their core use case. They simply offer additional infrastructure features and rely on hyperbolic narratives, hoping to sustain inflated valuations that their economic models cannot support.

So, what is the way forward?

The answer is not to masquerade as infrastructure but to explicitly position yourself as a product or service and excel at it. If your protocol can solve real problems and drive significant total value locked (TVL) growth, that's a solid foundation. However, relying solely on TVL is not enough to make you a successful Appchain.

What truly matters is actual economic activity: being able to drive sustainable fee generation, user retention, and total value locked that brings clear value accrual to the native token. Moreover, if developers choose to build on your protocol because it's genuinely useful, not because it claims to be infrastructure, the market will naturally reward you. Platform status is earned through strength, not self-proclamation.

Some DeFi protocols—such as Maker/Sky and Uniswap—are moving down this path. They are evolving toward an application chain model to improve scalability and cross-network accessibility. However, they are doing so based on their own advantages: a mature ecosystem, a clear revenue model, and alignment between their products and the market.

In contrast, the emerging RWA field has not yet demonstrated persistent appeal. Nearly every RWA protocol or centralized service is rushing to launch an application chain—often supported by fragile or untested economic models. Just as leading DeFi protocols are transitioning to an application chain model, the optimal development path for RWA protocols is to first leverage existing Layer 1 ecosystems, attract users and developers, drive TVL growth, demonstrate sustainable fee generation capabilities, and then evolve into an application chain infrastructure model with clear objectives and strategies.

Therefore, for an application chain, the practicality and economic model of the underlying applications must be validated as a priority. Only after these foundations have been proven should a transition to an independent Layer 1 be considered feasible. This contrasts sharply with the growth trajectory of general-purpose Layer 1s, which can prioritize building validator and trader ecosystems early on. Initial fee generation relies mainly on native token transactions, and over time, cross-market expansion will scale the network to include developers and end users, ultimately driving TVL growth and forming a diversified revenue stream.

As the crypto industry matures, the fog of narrative is dissipating, and investors are becoming more discerning. Popular terms such as "application chain" and "Layer 1" no longer suffice to attract attention on their own. Without a clear value proposition, a sustainable tokenomics, and a defined strategic path, protocols will lack the necessary foundation to transition to true infrastructure.

What the crypto industry—especially the RWA sector—needs is not more Layer 1s but better products. Projects that focus on building high-quality products will truly reap the rewards of the market.

Figure 1. Market Cap and TVL of DeFi and Layer 1

Figure 2. Layer 1 Concentrated in High-Fee Areas, While dApps Concentrated in Low-Fee Areas