first level title
Tips:
The Shanghai upgrade will bring about changes in the fundamentals of the LSD track
The ETH staking rate of return will become the benchmark rate of return on the chain, and there may be an interest rate difference between the chain and the off-chain
The interest-earning and liquidity attributes of LSD assets determine that it has different characteristics from other Yield Bearing Assets
The scenario of increasing income of LSD assets in the future is mainly reflected in its liquidity attributes
The possible focus of the LSD track is reflected in the accumulation and how to build a bribery agreement
1. Why focus on LSD now
The full name of LSD is Liquidity Staking Derivatives, that is, liquid pledged derivatives, more specifically assets such as stETH and rETH. LSD essentially belongs to the asset class of Yield Bearing Assets. Due to the benefits of ETH staking products brought about by ETH 2.0 and the Shanghai upgrade, LSD has come into people's view as a track alone. In fact, all yield-bearing notes, such as LP tokens, belong to Yield Bearing Assets, and the total market value of this asset class far exceeds spot. butIn the last DeFi cycle, the development of derivatives for Yield Bearing Assets did not reach a considerable level. The main reason is that there are many types, but the market value of a single category is very low.The derivatives market related to Yield Bearing Assets is facing fragmentation of liquidity and a small market size.
LSD assets are the largest asset class in Yield Bearing Assets. Its development narrative in the last cycle is mainly on the asset generation side, that is, the development of various liquidity pledge agreements to generate different LSD assets, rather than the LSD itself. Expansion of application scenarios. The Shanghai upgrade will promote changes in the fundamentals of the LSD track, mainly in two points:
ETH assets can be withdrawn from the beacon chain, and the price volatility of LSD assets tends to stabilize
The exitability of the underlying assets will promote the increase in the scale of LSD assets, making it room for various derivative products
At present, the pledge rate of Ethereum is about 15%. According to the estimate of the pledge rate of the POS public chain in the past, the pledge rate of Ethereum will rise to at least 30% in the next few years, that is, within the predictable range, there are still about 18 million ETH To be pledged, at least about 1/3 of the ETH will be pledged with liquidity. The increase in the scale of LSD assets will bring sufficient market space for LSD derivatives.
Sufficient market space means a sufficiently large market size, and the stability of LSD asset prices means that it has broader usage scenarios.The ETH deposited in the beacon chain before the Shanghai upgrade cannot be retrieved, and the market price of LSD depends on the pricing of the secondary liquidity pool. This pricing method will cause LSD assets to face a substantial discount when encountering extreme market conditions. But when LSD has more ways to exit liquidity, its market price will be more stable.
2. The integration of LSD's interest-generating properties and DeFi
In terms of the integration of LSD and the DeFi ecosystem, the processing method that was once applicable to Yield Bearing Assets is still applicable to the LSD track. This integration method mainly utilizes the attributes of LSD as an interest-bearing asset, specifically including:
As collateral for lending agreements or stablecoin agreements
Separation of principal and interest
2.1 As collateral for the lending agreement
As collateral is the most common use case for Yield Bearing Assets, this is how users can gain leverage. For institutions, using AAVE V3's efficient mortgage lending can realize the revolving income of ETH staking, and the specific way is to realize it through stETH revolving loan. However, the premise that revolving loans can be profitable is that the borrowing cost of ETH is lower than the income of ETH staking. Since the rate of return of ETH staking will become one of the benchmark interest rates on the chain after the upgrade in Shanghai, the cost of borrowing in DeFi may also increase accordingly. Changes in benchmark yields will profoundly affect the development model of DeFi. At present, AAVE's ETH borrowing rate is 4-5%, which is very close to the ETH staking yield.The convergence of borrowing rates and staking returns could make revolving loans less attractive.
As for how the rate of return of ETH staking deeply affects the development model of DeFi, the author believes that the main influence lies in two points:
The cost of on-chain liquidity incentives will increase
CeFi and DeFi have room for arbitrage on ETH staking spreads
It is worth discussing the spread arbitrage. Looking back at the development history of Web3 in the last cycle, the rise of every big track seems to be related to arbitrage. In the final analysis, the initial development of DeFi came from the interest rate arbitrage between DeFi and CeFi; the development of GameFi came from the arbitrage of global salary levels; the rise of traffic protocols such as Hooked Protocol came from the arbitrage of global traffic prices... The possibility of the next arbitrage narrative It is the large-scale growth point of Web3 in the next cycle. But as far as DeFi's interest rate arbitrage is concerned, the brutal growth mode of the last cycle has passed, and CeFi funds need to find another arbitrage scenario. With the development of DeFi, the current benchmark interest rate on the chain can be confirmed through the ETH Staking yield. Therefore, there are options for real-world funds to obtain on-chain benchmark returns and off-chain benchmark returns.This arbitrage model inspired by the difference in on-chain and off-chain benchmark interest rates is likely to change the form of on-chain asset management products to a certain extent.The off-chain benchmark return is generally recognized as the Fed rate, which means that when the Fed rate is lower than the on-chain benchmark rate of return, CeFi funds based on the principle of arbitrage will enter the chain for ETH staking, triggering the next wave of DeFi inspired by arbitrage behavior narrative.
2.2 Separation of principal and interest of LSD assets and interest rate products
Regarding the products related to the separation of principal and interest of Yield Bearing Assets, we have to mention Element Finance, Pendle Finance and Sense Finance. The common way to separate principal and interest on the chain is to divide a floating rate Yield Bearing Assets into zero-coupon bonds and discount future earnings. Taking Pendle Finance's stETH pool as an example, its design principle is to divide stETH into Principal Token and Yield Token. Principal Token is a zero-coupon bond, and Yield Token is a sub-product with floating interest rates. The division formula satisfies: 1 stETH -> 1 PT stETH + 1 YT stETH.
The above formula expresses a quantity relationship rather than a value relationship, that is, the market values on the left and right sides may not be equal, so arbitrage opportunities often exist when liquidity is poor. After the duration expires, PT stETH can be exchanged for stETH at a rate of 1: 1, and YT stETH can also be directly exchanged for the income generated by 1 ETH pledge (PT stETH is a zero-coupon bond that meets a certain rate of return for 1 ETH, while YT stETH is 1 ETH pledged discounting of possible future benefits). The price of zero-coupon bonds essentially corresponds to the yield. Therefore, when the market demand for PT stETH fluctuates, the price of PT stETH will fluctuate accordingly, thus making the implied yield in a state of change.
There are generally two forms of interest-paying products such as YT stETH: the first is regular interest payment, and finally the value of the product is reduced to 0; Redeem together later. The above two models are completely different logics when providing liquidity. AMM market-making has inherent disadvantages for assets with zero impairment, and LPs face serious impermanent losses. Therefore, the commonly used interest-bearing method is the second method, where all interest due is redeemed. The main purpose is to facilitate subsequent market making.The AMM pool is also built on Balancer. The main reason is that the Composable stable Pool design in the Balancer pool can reduce impermanent losses during the one-way value-added process of YT token.
Based on the above basic mechanism, the principal-interest separation agreement can provide three products: interest rate swap products, leveraged products, and fixed-income products. For the buyer of Principal Token, buying Principal Token is equivalent to buying a zero-coupon bond, and the yield is determined by the purchase price. This Principal Token is a fixed-income product. What we think of buying the underlying spot at a discount is actually buying the zero-coupon bond of the spot; for the seller of the Principal Token, it is equivalent to selling its own fixed-rate product (zero-coupon bond) in exchange for liquidity. This part of liquidity can be invested in other floating rate products, which is equivalent to exchanging the fixed rate product (Principal Token) in hand for a floating rate product (for example, putting it into a machine gun pool), completing the process of interest rate swap. Interest rate swaps are essentially user-risk swaps. The fixed-rate seller hopes to obtain excess risk returns, while the fixed-rate buyer hopes to lock in future returns.
The interest rate leverage product means that users can use YT token to obtain the income during the interest rate change process of Yield Bearing Assets, and eliminate the price fluctuation of Underlying Assets itself. To give a simple example, user A has 1 ETH, and deposits it in Lido to obtain ETH staking income. It estimates that ETH's pledge income will be higher than 10% for a long time in the future. Therefore, he hopes to use the leverage tools on the chain as much as possible to increase his interest rate exposure to ETH pledges. Then, by using the principal and interest separation agreement, it can expand its leverage without the risk of liquidation. The specific implementation steps are as follows:
Split 1 stETH to get a PT stETH and a YT stETH
It is estimated that the annualized return of ETH pledge is higher than 10%
Sell PT stETH at a discount of less than 10%, let's say 6%, get 0.94 ETH in cash
Reinvest 0.94 ETH into the separation of principal and interest, and then divide it...
In theory, selling Principal Token at a discount of 6% can obtain up to 16.7 YT stETH of floating interest rate risk exposure
As long as the average floating interest rate of Yearn ETH is higher than 6% before the redemption period expires, the above operations will always be profitable. (If it is 10%, then the profit of the above strategy is 66.7%)
This process has obvious advantages. It erases the price risk of Underlying Assets itself, allowing users' risk exposure only to the interest rate part, and multiple risks are reduced to one dimension. butThe above strategy constructed through Yield Token can only be bullish on floating interest rates, and cannot be applied to the bearish scenario of floating interest rates.
"Perpetual DEX: The Road to LP Productization""Perpetual DEX: The Road to LP Productization"GNS mode is mentioned in . This model is also very suitable for interest rate perpetual contract products. Since clearing and settlement are very fast, the GNS model supports high leverage, so it can be applied to the interest rate market with small changes.The emergence of interest rate perpetual products may later be extended to more complex on-chain derivatives strategies.
3. The liquidity attribute of LSD and the integration of DeFi
The stability of LSD price brought about by the Shanghai upgrade means that this asset has the opportunity to become a substitute for ETH on the chain,Its hard currency attribute will give LSD assets on the chain the same liquidity attributes as Curve's 3 crv lp and Balancer's bb-a-USD.Under normal circumstances, interest-earning assets are difficult to circulate, and liquid assets are difficult to generate interest. LSD assets, 3 crv lp, and bb-a-USD perfectly blend these two seemingly contradictory asset classes. In the last DeFi cycle, 3 crv lp and bb-a-USD were widely used in various DeFi protocols as a supplement to the liquidity of stablecoins. For example, stablecoin protocols usually choose 3 crv lp when maintaining their stablecoin liquidity and bb-a-USD as liquid assets. This means that LSD, which is similar to the above-mentioned assets, will also become an important resource that various DeFi protocols need to attract to improve their liquidity.
But why didn't the 3 crv lp and bb-a-USD assets get a lot of attention? The reasons may lie in the following points:
3 The acquisition of crv lp and bb-a-USD comes from the provision of stable currency liquidity on Curve and Balancer. The entry threshold for retail investors is relatively high, and most of them are held by DeFi whales
The yield of assets is low, which is not attractive to ordinary retail investors
The asset scale is small, and it is difficult to use it on a large scale in the DeFi ecosystem
However, the market capitalization, subdivision and stable rate of return of LSD assets far exceed 3 crv lp and bb-a-USD. Therefore, it will have a wider use space in the DeFi ecosystem. In addition, the threshold for retail investors to get in touch with LSD is not high, and its user groups are more abundant.
As an important liquidity resource, LSD will inherit the mission of 3 crv lp and bb-a-USD and become an essential asset for the liquidity pool on the chain. this meansThe storage and distribution of LSD will become an important part of the LSD track.Storage absorption requires the construction of various scenarios. The simple scenario is to build a revenue aggregator, and the more complicated one is to construct various side-by-side designs; after the storage absorption is completed, the distribution of LSD assets in different DeFi protocols is another direction, and the distribution method It can be based on high returns or governance rights, and different designs will produce different product forms.
In the integration of LSD and DeFi protocols, the composability between protocols needs to be considered. The mechanism design of DeFi composability is essentially the flow of revenue between different protocols. At present, the main sources of income of LSD assets include:
ETH staking income
The agreement's liquidity incentives for LSD assets
Swap fee for LSD assets
These three income sources actually reflect the two attributes of LSD assets: ETH staking income is an interest-bearing attribute, while the liquidity incentives and swap fees for LSD assets are essentially the liquidity attributes of LSD.There are differences in the interest-earning income of LSD,Mainly due to the difference in the stability of the validator nodes behind this LSD asset class.Taking stETH and rETH as examples, since the node operators behind stETH are all professional node operators screened by Lido, this means that they have strong stability in obtaining ETH staking income. In contrast, Rocket Pool does not entrust all node operations to professional node operators but supports individuals to build nodes. The stability of individual nodes is limited by many uncontrollable factors. As a result, the annualized return of rETH is about 1% lower than that of stETH.
The difference in LSD interest-earning income is determined by its different treatment methods for hardware equipment, butThe liquidity income of LSD assets depends on the way it is integrated into DeFi, the most classic of which is Frax's balance model. When users use Frax for ETH staking, they will receive frxETH anchored 1:1 with ETH. Users simply holding frxETH will not generate any income. There are two ways to obtain income:
Pledge frxETH to get sfrxETH, sfrxETH can accumulate ETH staking income
Do frxETH - ETH lp on Curve, get $CRV and swap fee
It is equivalent to Frax constructing a balance, one end of the balance is ETH staking income, and the other end is LP income.Since frxETH holders only have the above two ways to obtain income, Frax can effectively guide user behavior by adjusting the rate of return of the second method. When the liquidity of frxETH is insufficient, Frax officials only need to increase the income of the LP pool. In addition, since Frax Finance holds a large number of Curve gauge voting rights through Convex Finance, it can increase the income of LP by increasing the voting weight of frxETH - ETH lp pool without paying additional costs.
Frax’s “empty glove, white wolf” model can only be applied to protocols with a large number of vote-buying votes, and for a liquidity staking agreement similar to Lido, maintaining the liquidity of LSD assets requires a subsidy of platform currency. This has thus created an ecological gap, which is caused by two factors:
Gaining as many Curve Gauge votes as possible is very expensive
The platform currency subsidy provided by the Liquidity Pledge Protocol to maintain the liquidity of LSD assets is unsustainable
At present, only Frax and Yearn Finance have liquidity staking agreements that have governance rights for Curve. It is very difficult for other protocols to continue to crowd out Curve's governance rights. Under the assumption that the liquidity staking agreement blows out in the future, the LSD assets issued by the liquidity staking agreement that lacks the first-mover advantage need to rely on a liquidity incentive platform with a lower threshold than Curve, such as Balancer or ve( 3, 3) DEX .Sushiswap's "vampire attack" on Uniswap is already a common business model in this industry, which means that in the field of LSD's liquidity incentives, there may be a DEX that launches a similar attack on Curve.
certainlyThe above scenarios are only based on the diversified development of future liquidity staking agreements.In fact, the liquid staking track is very similar to the stablecoin track in the last cycle: there are multiple leaders in the track, but the existence of the leader will not affect the development of other protocols, but will promote it. Taking DAI as an example, many decentralized stablecoin protocols will also build DAI - stablecoin liquidity pools. The existence of this liquidity pool not only enriches the liquidity of the stable currency, but also increases the application scenarios of DAI and improves the income of DAI holders. In the field of LSD, a similar situation may arise in the future. Since the income of ETH staking has become the benchmark interest rate on the chain, the cost of absorbing ETH has increased significantly. At this time, the liquid pledge agreement attracts ETH to pair with the LSD assets issued by it and build a liquidity pool through various liquidity incentives. exorbitant cost. SostETH can play a role similar to DAI in this scenario, and other LSD assets lease stETH to complete the process of building their own liquidity in Curve's ETH liquidity pool.
So what kind of products might emerge based on this idea? The product form of Tokemak fits the above scenario very well. As the pioneer of the liquidity guidance protocol, Tokemak skillfully integrates governance rights and liquidity distribution rights. Curve provides a certain degree of $CRV liquidity incentives for each pool. The income is determined by voting rights, and LPs take care of their own risks. Tokemak absorbs a large amount of liquid assets through high returns to build a large pool of funds, and then through governance rights Voting allocates the liquidity funds of the large capital pool to different protocols for their use, and the total capital risk is borne by the Tokemak protocol. This method of liquidity distribution is extremely effective during the bull market, but when the bear market comes and the liquid assets in the large capital pool are gradually drawn away, Tokemak is prone to insolvency problems. The main problem is that the assets in Tokemak are unstable assets. After other agreements obtain the liquidity of Tokemak's large capital pool through governance rights, they often use it to form LPs to build liquidity. These LPs are also vulnerable to impermanent losses and the risk of falling token prices, resulting in a shortfall in lending liquidity.
But in the LSD scenario, the above-mentioned risks caused by impermanent losses and token price declines will not become the main source of risk for the protocol. This is because the asset reserve absorbed in the above link is stETH, and the LP built by the project party is also stETH - LSD, that is, all LP liquidity is Like - Like assets lp, and there will be almost no impermanent loss, and the agreement is unlikely Problems of insolvency arise.
Regarding the design of governance tokens, governance rights are mainly reflected in the liquidity allocation of large capital pools and the selection of DEX. The new liquid pledge agreement can obtain stETH or ETH as the liquidity reserve assets of the LSD assets issued by the agreement, so that it can build LP transaction pairs on DEX; on the other hand, the governance right can also choose which one to integrate LP into DEX's LP pool. Therefore, as far as the demand side of governance rights is concerned, both the new liquidity staking agreement and the new DEX have the need to hold agreement governance tokens.
The premise of the above mechanism is the deposit absorption model, that is, the protocol needs to create a scenario where stETH and ETH holders are willing to deposit assets. Serving as collateral is a scenario, providing principal and interest separation services is a scenario, and attracting holders through high returns is also a way.
There are two ways to construct high-yield scenarios:
construct a side scene
Construct real high-yield scenarios through bribery agreements
The OHM model is a typical side-by-side scenario for storage absorption, which is not sustainable. From a long-term perspective, relying on bribery agreements to construct high-yield scenarios is the highest level of deposit absorption. Moreover, in the case that decentralized stablecoins need further competition in the future, the bribery agreement serving LSD can also play a link between the past and the future.
So at this time we have returned to the core issue of DeFi revenue. When the interest-earning income cannot be increased quickly, how to improve the liquidity income is the main issue that the LSD track should pay attention to.first level title
Reference
https://docs.balancer.fi/concepts/pools/boosted#crucial-building-blocks-linear-pools
Disclaimer: All Foresight Ventures articles are not intended as investment advice. Investment is risky, please assess your personal risk tolerance and make investment decisions prudently.
Foresight Ventures bets on the innovation of cryptocurrency in the next few decades. It manages multiple funds: VC fund, secondary active management fund, multi-strategy FOF, special purpose S fund "Foresight Secondary Fund l", with a total asset management scale of more than 4 One hundred million U.S. dollars. Foresight Ventures adheres to the concept of "Unique, Independent, Aggressive, Long-term" and provides extensive support for projects through strong ecological forces. Its team comes from senior personnel from top financial and technology companies including Sequoia China, CICC, Google, Bitmain, etc.
Website: https://www.foresightventures.com
Twitter: https://twitter.com/ForesightVen
Disclaimer: All Foresight Ventures articles are not intended as investment advice. Investment is risky, please assess your personal risk tolerance and make investment decisions prudently.
IOS
Android