Y Combinator is doubling down on crypto founders despite market volatility

Crypto founders have heard the saying a thousand times in the past few months -- there’s no better time to build than during a downturn. In Y Combinator’s latest cohort, there are 30 crypto startups, up from 25 the batch prior, showing that the accelerator, and the founders it is betting on, believe in the adage.

Furthermore, YC seemed to hone in even further on crypto even as it trimmed its overall batch size this summer. Doing quick math, crypto startups make up 13% of the companies in this summer’s YC cohort, whereas crypto only accounted for 6% of the prior W22 YC batch, meaning the percentage share of crypto companies participating in the accelerator’s program more than doubled in just a few months.

YC’s vote of confidence is welcome news for a sector experiencing volatility of its own. Data from Crunchbase and PitchBook indicate that the total dollar value of web3 investments could drop by half or more in the next quarter from its prior levels, which hovered around $10 billion in some recent quarters, a TechCrunch+ analysis reports.

The accelerator’s recently grown standard check size could be especially helpful here. YC now invests $500,000 in each accepted startup, money that ideally goes further (and makes more of a statement) during a downturn than in a frothy market.

At large, the early-stage world continues to be a sunny respite to the doom and gloom surrounding tech more broadly. For example, YC is betting more and more often on crypto founders as operations outside-yet-adjacent to it do the same. Earlier this month, Y Combinator alumni effort Orange DAO raised $80 million to back crypto startups and get more YC founders into the crypto world. Add in the fact that there’s an alumni day dedicated to giving former accelerator participants a first look at the fresh talent coming out of YC, and the synergies explain themselves.

With these factors in mind, let’s see what this batch’s YC crypto founders are prioritizing with fresh capital and instability in mind.

Clunky apps, confused consumers are crypto's status quo

The “crypto winter” that began unfolding in May this year highlighted some major issues with the sector and seems to have inspired founders to build better solutions in the space. This year’s batch honed in on a few areas of focus, one of the most notable being security -- a clear area of vulnerability within the broader ecosystem that became even more prominent after this year’s rise in crypto hacks and phishing attacks.

This season’s cohort embodies another quirk of the web3 space -- both the front end and back end in this sector are being built simultaneously. There are a number of startups in the cohort working on making crypto more user friendly for both developers and end users, as well as a range of different infrastructure-focused companies building out the behind-the-scenes plumbing of the cryptoverse.

Consumer-facing wallets seem to be a major area of focus this year, perhaps partly as a response to the common criticism that web3 products are clunky and confusing for everyday users. Each of the four startups in this batch building crypto wallets has its own niche. For example, Paris-based Bitstack is building a crypto wallet tailored for Europeans, San Francisco’s Sylva is leveraging the growing popularity of staking to allow users to earn interest across different blockchains and Stackup aims to be the easiest-to-use wallet for beginners.

Even outside of wallets, there is a clear focus on consumer-facing products in this batch, with startups Internet Friends and SolStar both looking to capitalize on the growing demand for community and group-based investing. Lyra helps individuals spend their crypto with its virtual card, while Weltio helps them invest in the asset class.

Not all startups are hoping to directly serve the consumer. Particularly as institutions continue to enter the crypto space, the market downturn has given an even bigger impetus to founders to prioritize building the tech and tools that more traditional players need to feel comfortable operating in web3. For example, of the 30 crypto companies in this cohort, 10 are focused on SaaS products, underscoring the desire for startups to find ways to serve institutional clients.

While the end-user is less risky when it comes to building for the enterprise, the competition is steep. One batch startup, Alterya, wants to be the Plaid for crypto, helping apps extract user’s financial data to make transactions easier. Yet Plaid and Gemini, a cryptocurrency exchange for digital assets, announced a partnership in July 2022 with a similar pitch. There’s also Chainsight, a batch startup building an API to help web2 and web3 companies detect and prevent crypto scams, a focus that every large crypto exchange has today and a problem that PayPal, Coinbase and Mastercard have addressed through acquisitions.

The growing demand for crypto security solutions goes hand-in-hand with surging interest in decentralized finance (DeFi), a space rife with institutional interest but particularly vulnerable to high-profile mishaps because of its nascence, like what we saw with the collapse of the Terra stablecoin earlier this fall.

DeFi in particular is seen as the subsector of crypto that kicked off the broader downturn in the sector. After Terra collapsed, other DeFi protocols began to unravel, including Celsius and Voyager, illustrating just how intertwined crypto companies are and how that connectedness compounds already high risk. But despite the high risks associated with DeFi, its promise of high returns for investors through activities like staking has kept it afloat, with major exchanges including Coinbase increasingly depending on activities like staking for revenue as other parts of its business tank.

Of the 30 crypto companies in this cohort, eight are building products specifically focused on DeFi. The DeFi market is maturing, bringing with it new offerings similar to those that evolved over time in the traditional finance world, such as derivatives, which happen to be the focus of India-founded EthosX in this batch.

Other YC S22 startups in the DeFi space include crypto treasury management platform Excheqr and institutional-grade trading platform Terrace, both of which seek to fill the growing demand from companies to take advantage of high DeFi returns.

NFTs are still an asset

The fintech-related innovation in the web3 world isn’t just limited to DeFi products that directly generate yield. NFTs saw growing interest from investors during the crypto bull run, and although NFT exchanges have been weathering a particularly severe downturn in trading activity and interest in the past few months, YC has a strong track record in this space. It backed the largest NFT marketplace, OpenSea, in 2018.

In the last YC cohort, NFT startups featured prominently in the mix of crypto startups, with six total included. In this batch, YC is continuing to invest in NFTs despite current market sentiment, backing seven new companies in the sub sector, including secure minting marketplace Supercool and web3 gaming-focused NFT startup Metafi.

Among the YC NFT startups in this batch, we also see familiar nods to other widely discussed themes within the crypto world, including the creator economy, developer tooling and consumer payments.

As unpredictable as crypto has proven itself, perhaps the ups and downs of this past year, combined with funding and support from YC, are just what these early-stage founders needed to be able to hone in on fixing the most pervasive issues in the space. This year’s cohort may end up embodying another oft-repeated bit of web3 wisdom -- that a downturn will separate the startups with strong fundamentals from those being buoyed simply by the word “blockchain” rather than their business models.