At the root level, the change from Proof of Work (Pow) to Proof of Stake should make Ethereum simultaneously more secure AND more efficient. There has been hours of blogs written on the upcoming impacts so I won’t try to summarize other than to say go check Hal Press’s excellent post and recent follow up on the subject, plus Justin Drake discussing the Merge on the Defiant.

But what does the merge mean for the market in general?

The most significant effect of the change from PoW to PoS is the potential for the staking rewards for ETH2.0 to essentially create a risk-free rate for the crypto markets. As the second largest blockchain by market cap (soon to be largest?) and the leader in other important metrics like developer activity, total value locked, and user adoption by number of wallets, Ethereum is well established.

“As long as Ethereum continues to offer the highest quality block space it will likely capture the majority of high value transactions.” — @NorthRockLP https://link.medium.com/i1EYhfXmzsb

Most importantly, the staking yield provided by the merge stands out amongst other chains when viewed in real terms. The efficiency gains in a PoS model for ETH are so significant that after accounting for gas/fee burn, Ethereum will likely be a deflationary asset, potentially creating a real yield of over 5%. (For more on this, see the above linked post from Hal Press). As the below chart from staked.com shows, this compares favorably against other large layer 1 chains:

Setting a benchmark interest rate for DeFi provides the market a new way to price risk and creates a benchmark for other protocols. It may even bring in new money from institutions with yield requirements that are currently sidelined by the volatile, or even negative, real yields from other chains.

Updates

It’s always interesting to see how predictions play out, and last post I went over BTC, ETHBTC and DXY. ETHBTC has respected it’s long term range while BTC and DXY have continued their trends as the Fed continues to combat consistently strong inflation.

BTC is sitting right at the December 2017 high.

DXY pulled back for a brief period after hitting the January 2017 high, but ripped through resistance and took out the high set back in October 2002. Eventually the trend should pause as the global demand for dollars (or, rather, squeeze) starts to fade, but as long as the dollar and US yields are bid, and financial conditions continue to tighten in the US, BTC will have challenges going forward.

Liquid ETH Staking

Finally, something fun to think about. Coinbase staked ETH (cbETH) and Lido staked ETH (stETH), are trading at a discount to ETH, while RocketPool’s version (rETH) has traded at a consistent premium to ETH over the last few weeks. Once Beacon chain staking withdrawals are enabled, all three should converge to 1.00, provided no other frictions are present. However, the mechanics of each of the three tokens provides some insights for the current differences. From Galaxy Research:

“Since Coinbase’s launch of its liquid staking derivative ETH token (cbETH) several weeks ago, cbETH has widened its discount to ETH, now trading nearly 10% below ETHUSD. While stETH operates on a rebase model, where tokens held or staked at participating venues have their supplies adjusted upwards on a daily basis to account for reward accrual, cbETH follows an accrual model pioneered by Compound in which each cbETH token represents a claim on underlying principal + rewards - slashing/penalties, such that cbETH supply held does not alter but instead represents a claim on growing collateral. This is like rETH’s value accrual method where, as each rETH token represents a claim on a growing amount of collateral, cTokens with value accrual should should trade as a premium to the tracked asset (i.e., ETH), yet, Coinbase’s cbETH trades at a significant discount while rETH trades at a premium. This dynamic is likely due to the simplicity of redeeming rETH vs. cbETH, with the latter requiring KYC and account signup at Coinbase. Another reason for the cbETH dicsount, which we discussed in a prior newsletter, is that Coinbase’s larger regulatory footprint increases cbETH’s counterparty risk profile.”

Meanwhile, the DXY is in it’s first drawback of any consequence since it dropped about 4% from March 31 through May 25 in 2021. In fact, the DXY has been in a range between $87~$89 to $100~103 since late-2014/early-2015, so it will be interesting to see if DXY falls back inside this almost seven year range, potentially bringing the range lows back into play. A weakening dollar has historically been very positive for BTC as well, this the recent DXY lows correspond to BTC highs and vice versa.

Alternatively, this could just be a retest of the range highs before DXY explodes higher to match its high around $120 from March 2002, causing serious issues for the global economy in general.

ETHBTC continues to slide down towards the lower end of its year-long range. The bear market in prices has also impacted interest in most uses for ETH, NFT volumes and DeFi in general, while macro demand for BTC has been relatively more attractive.

Going back further to March 2018, the current range is actually nothing new. Perhaps ETHBTC will test the lows of the extended range (tiny blue box) in time for the ETH 2 merge, which will likely turn issuance of ETH negative enough to outpace general macro demand for BTC.

Given how well this range has held, extremely bearish market sentiment in both crypto and traditional markets, and the rapid spike in treasury yields — tightening financial conditions well beyond anything the Fed could accomplish in such a short time — I would not be surprised to see this low hold as we reach peak worry. Real income is still negative and there are still no seamless links from crypto into the “real” economy so I’m not saying the low is in, but if this range DOES hold, $47,500 should come before $20,000.

So what now? Normally, recessions are a cleansing process and capital dries up, but in the crypto space, VC firms have continued to flood the space with cash. Teams are building and the next generation of blockchain innovation will come out of this. Meanwhile, crypto has absorbed massive shocks to the system like the recent bridge hacks (Wormhole for $320m & Ronin for $540m at the time), wholesale liquidation of an entire blockchain network and stablecoin ($85bn for LUNA and $17bn in UST in market cap value destruction) and continues to drive on. Once again, there were no systemic failures anywhere as all exchanges remained online and even outperformed earlier periods of market stress. No DeFi protocol failed, except the aforementioned and poorly executed experiment called LUNA/UST. Unfortunately, a whole lot of people lost a lot of money, but the space is nothing if not volatile and the big losses come with the big gains, especially when everything is essentially a new experiment.

I’ll close on an interesting comparison: LUNA and UST wiped out over $100bn in value by market cap combined. To put that number in perspective: Lehman Brothers reached an all time high market cap of about $60bn in late 2007. It’s ensuing collapse nearly brought down the entire financial system, largely due to the rehypothecation of collateral across dense and opaque financial products. It was a systemic collapse of worldwide consequence, the aftershocks of which I believe we are still feeling today. Meanwhile, almost $100bn in value evaporates overnight out of a single, leverage protocol with collateral spread across the crypto ecosystem at the tail end of a violent market selloff and the only thing to show for it is one dead blockchain and a whole pile of assets on sale.

Even though the last few months have caused tremendous pain for many, it’s hard to take a sober look at the transparency blockchain technology provides and not think it’s the future.

Geopolitical headline have dominated the markets for the last few weeks as Russia invaded Ukraine and volatility across all asset classes to spike. Commodity markets are disconnecting in violent short covering rallies, the S&P 500 is off over 14%, and rate markets have already tightened financial conditions beyond anything the Fed could hope accomplish out of their March meeting. Zero Hedge is calling for all out disaster, which is nothing new, but it’s the breadth of indicators flashing red that seem to make it actually worth paying attention to this time. While dollar dominance as the world’s reserve currency may or may not be at stake, I do think the world’s reaction to Russia’s invasion of Ukraine will have deeper consequences on our world than the invasion itself. You just can’t cancel a nuclear powered country like someone with a blue checkmark and expect the same, limp, apologetic response in return.

War aside, what does this mean for crypto? I think there is a high probability recent events will actually strengthen the case for crypto. First, it is no longer a case of waiting for Bitcoin, or crypto generally, to “go mainstream.” Even if you slept through the Super Bowl and never turn on CNBC or Bloomberg, all of which were, and are, flooded with crypto commercials, then perhaps you’ve read about Trudeau’s stunt in Canada, speculation of Russians circumventing international sanctions using bitcoin (or not), and recent headlines regarding an imminent executive order from the Biden administration.

There are dozens of other examples of crypto going mainstream (it is mainstream, after all), so perhaps this isn't exactly the riskiest stance to take. But I think recent events highlight something more fundamental as well. In a sense, we are seeing crypto put to the ultimate test in real time. Bitcoin was invented to “allow two willing parties to transact directly with each other without the need for a trusted third party,” ie, governments. Suddenly the Canadian government and all governments sanctioning Russia are actively proving the value of decentralized stores of value in real time. Uncensorable, self-custodied assets have never existed on a global scale as they do today. Governments can try to seize financial assets, as they do all the time if those assets are held in a regulated, central exchange, but if those assets are held in a personal crypto wallet, there is literally nothing they can do to freeze or otherwise control those assets.

Of course, that may reduce the effectiveness of some economic tools for responding to bad actors. Sanctions, if you will. But it still highlights the importance of controlling your own financial assets in a day when someone, somewhere, could literally remove your ability to participate in society by freezing your assets with a few phone calls, as the some protest supporters in Canada recently found out.

February Highlights

(Travis Kling’s monthly summaries are great. If he ever stops publishing these roundups, I think I’d have to start doing them for myself.)

With the war in Ukraine dominating the news lately, it’s hard to believe some events on that list were actually just a couple weeks ago. Fundraising rounds were still strong, the IRS and other regulatory agencies offers *some* clarity on crypto regulations, and it seems the Bitfinex hack was finally solved with the help of some gift cards. But two other events stood out to me, which were the announcements that State Street and BNY Mellon will start offering crypto custody - State Street initially through a partnership with Gemini and BNY through a strategic investment Fireblocks. State Street and BNY Mellon offering custody solutions could blow the door wide open for traditional finance firms to start truly capitalizing on opportunities in the crypto space. Custody solutions are generally required by the SEC for firms managing over $25 million in client money, but the complexities of crypto has, up until now, sidelined the established players. It will be interesting to see if these development change the institutional landscape of crypto, and DeFi in particular, considering State Street and BNY Mellon together custody over $40 trillion in assets.

Markets

As of today, I do not see any sign that war in Ukraine is subsiding and recent events suggest things will get worse before they get better. I have no idea how much worse; however, I do expect the crypto markets to lead out of whatever depths we reach, just not yet. In fact, after a failed breakout of the RSI trendline last month, I think there is a good possibility BTC retests the summer lows as noted by the green box below.

One view that gives me pause on the medium term bear case is BTCPERP open interest seems to have found support and funding has been generally neutral for weeks now. A recent series of higher lows on the daily chart could mean max pain is, indeed, up.

My FTM/SOL call from several weeks ago is closed after even more turbulence around Andre Cronje after he announced (poorly) that he was walking away from crypto. (I say poorly because because his vague announcement made it seem like all Andrew Cronje-related projects were folding, which is not the case). While no developer is responsible for the success or failure of an entire blockchain, the crisis of confidence Andre and Daniel Sestagalli’s created around their projects will be hard for many who followed them to shake. Further, the volatility stemming from the news that Andre was hanging up the keyboard put the entire Fantom network under significant stress, with gas prices reaching over 10,000 gwei after several days of congestion following the launch of his latest projects, Solidly and Solidex.

Back to the question above - A few weeks ago, I provided some examples of finding yield in crypto. Almost all of those ideas involved protocols built on Ethereum, which makes sense given the general dominance of Ethereum over other layer -1 blockchains like Solana, Avalanche, Algorand, etc. However, it is no secret that fees on Ethereum can take a serious bite out of returns, especially when deploying modest sums of money in any given strategy. For instance, depending on the contract, swaps on Uniswap were hovering around $60–80 per trade for weeks, with fees for staking tokens even higher. So if you are looking to invest $1,000 into some of the strategies mentions, you’re looking at blowing over 25% in fees for a round trip — $70 to buy, $100 to stake, $100 to unstake, and another $70 to sell. This is not practical.

The obvious answer is to look beyond Ethereum. There are three places we can look: the same protocols built on Ethereum layer-2 chains, the same protocols on alternative layer-1 chains like Solana or Avalanche, or entirely different protocols on alternative layer-1 chains.

There are literally thousands of protocols out there so the trick is finding the ones you are most comfortable with, in your preferred ecosystem.

Below I update the protocols I discussed previously with their available chain, and add some new ones as alternatives to ETH only protocols. This is in no way exhaustive, nor are they recommendations or rankings of any kind. (I happen to think Algorand is one of the most promising chains out there, but no ALGO native protocols are listed here.)

Hopefully, this post helps to shed light on just a few of the options available in decentralized finance. If you’d like additional information on a particular protocol, I’d recommend checking out the protocol websites and whitepapers. DeFiLlama, DappRadar, and Token Terminal are also great resources for information and market data.

Fixed Rate Lending / Borrowing:

Protocols mentioned in part 1:

1. Notional Finance (ETH only)

2. Element Finance (ETH only)

Alternatives

Pendle and Tempus are both very similar to Element in that users stake yield-bearing tokens and the protocol splits these tokens into a yield token and an principle token. Another to watch here is Sense Finance, but their app is not live yet and it looks like it will only launch on Ethereum.

88mph offers pure fixed-rate yield and is an alternative for both Notional and Element. Users choose a maturity and can currently stake 21 single, non-yield bearing tokens and receive fixed yield on those tokens, which range from 0.01% for Link to 4.12% for CRV. Technically, this is similar to Aave or other yield farming protocols, but the difference is 88mph offers fixed rates for set maturities, instead of perpetual, variable yields like Aave, Compound, etc.

Barnbridge and Tranche Finance are alternatives to Element, where users stake yield-bearing tokens in return for a fixed yield, although the mechanics are very different. Both are yield risk-tranching protocols that split yield producing LP tokens into two tranches: a low-risk, low-return fixed rate token, and a higher-risk, high-return leveraged variable rate token. Users can choose which tranche they would like to participate in.

Availability

Pendle — ETH, Avalanche

Tempus — ETH, Fantom

88mph — ETH, Polygon, Avalanche, Fantom

Barnbridge — ETH, Optimistic, Polygon, Avalanche, BSC, Arbitrum

Tranche Finance — ETH, Polygon, Fantom, Avalanche

Staking

Protocols mentioned in part 1:

1. Lido Finance (ETH, Terra, Solana)

2. Curve (ETH, Arbitrum, Avalanche, Fantom, Harmony, Optimism, Polygon, xDai)

3. Convex (ETH only)

4. Bancor (ETH only)

Alternatives

There are hundreds of other protocols that allow users to stake the native token in the protocol for rewards. For most revenue generating protocols, this is the primary mechanism for fee distribution for token holders. There are too many to list, however, a good place to start is to consider looking at DeFi Llama or Token Terminal for protocols with the highest total value locked and protocol revenue. (Just be careful, of the protocols that have tokens not all reward token holders with fees, like dYdX for instance, so be sure to check the docs for tokenomics details.)

Liquidity Providers

Protocols mentioned in part 1:

1. Curve (ETH, Polygon, Avalanche, Moonbeam, Fantom)

2. Uniswap (v2 — ETH only, v3 — ETH, Polygon)

3. Balancer (ETH only)

4. Sushi — formerly SushiSwap (ETH, BSC, Polygon, Avalanche, Harmony, OEC, FUST, Telos EVM, Moonriver, Celo)

5. Bancor (ETH only)

Alternatives

All DEXs require liquidity providers, so if there is a particular DEX or liquidity pool you are interested in investing in, it’s just a matter of finding it. It may seems like a tall order, as there are 374 DEXs according to DeFi Llama, but platforms like Beefy can help simplify the search. Also, you’ll want to find the DEXs with the highest volume in the particular pool you provide liquidity for.

List of DEXs — https://defillama.com/protocols/Dexes

I also mentioned Beefy Finance and Alpha Finance here in the previous post, but those are really yield farms so I’ll include those below.

Asset Managers / Yield Aggregators / Yield Farms

Protocols mentioned in part 1:

1. Yearn (ETH, Fantom)

2. BadgerDAO (ETH only)

3. Beefy Finance (BSC, Polygon, Avalanche, Harmony, Cronos, Moonriver, Fantom)

4. Alpha Finance (ETH, Avalanche)

Alternatives

Asset managers and yield aggregators are primarily tools to simplify the process of providing liquidity while adding additional features. Essentially, these protocols layer tools on top of various DEXs so picking one versus the other is simply a matter of finding one that supports your choice of tokens and chains.

List of yield aggregators— https://defillama.com/protocols/Yield Aggregator

Option Vaults

Protocols mentioned in part 1:

1. Ribbon Finance (ETH only)

2. Squeeth (ETH only)

Alternatives

There are two main types of options protocols: structured products and marketplaces. Ribbon Finance and Squeeth, a product from the Opyn team, are both structured products which employ options strategies automatically in a particular product. Messari describes these protocols as “protocols [which] sit on top of option marketplaces and offer vaults for users to deposit funds into. Each vault executes a defined options-based yield strategy underneath abstracting complex pricing and risk management away from users. Similar to how Yearn executes yield farming strategies for money markets and exchanges underneath their vaults.” Marketplaces are markets where users can buy and sell individual options on particular tokens.

StakeDAO is essentially a one-stop-shop for various investment strategies, including passive strategies, options vaults, arbitrage strategies, LP farming, and staking. Several of their options strategies and LP farms are currently yielding over 30%, so worth considering. ThetaNuts and Dopex offer options vault protocols similar to Ribbon and provide structured products on various coins and tokens. Dopex also has an interesting token/governance model, which makes it an interesting hold in its own right.

Katana, Friktion, and Chest are all Solana based option vault protocols and apparently built by the same team. Katana is a straightforward option vault protocol like Ribbon while Friktion offers some more advanced strategies including pure volatility exposure through options and impermanent loss protection. Chest, or Treasure Islands, is a gamified LP farm that combines several elements of DeFi in a game that pays users using various DeFi native strategies, including options.

If you are interested in the flexibility of trading individual options, Lyra Finance and Hegic are options DEXs available in the US, albeit with a fairly limited orderbooks. Unfortunately, the protocols with the deepest orderbooks and most advanced features, like Zeta Markets and Premia Finance, are unavailable to US users.

Finally, PsyOptions provides both an orderbook marketplace for individual options, which is not available in the US, and a suite of structured products similar to the other options vaults mentioned above, which IS available in the US.

More on a few of these here: https://messari.io/article/overview-of-options-vaults?referrer=asset:ribbon-finance

Availability

StakeDAO — ETH, Avalanche, Harmony, BSC, Polygon

ThetaNuts — ETH, Avalanche, Aurora, BSC, Boba, Fantom, Polygon

Dopex — ETH, Arbitrum, Avalanche, BSC

Katana — Solana

Friktion — Solana

Chest — Solana

Hegic — ETH, Artbitrum

Lyra Finance — ETH, Optimism

Premia — ETH, Arbitrum, BSC

Zeta Markets — Solana

PsyOptions — Solana

Nodes

Protocols mentioned in part 1:

Nope.

Alternatives

Pass.

Outsourced / FaaS

Protocols mentioned in part 1:

1. Exponential Capital (ETH only)

2. Reimagined Finance (ETH, BSC)

3. Node Squared (ETH only)

Alternatives

Many. I added Aggregated Finance, purely as a valuation play, but these are still very risky. While there are some that trade on Avalanche or BSC, buying these tokens is trusting the team to not only deliver technically, but also the investment team to beat the market. I’m comfortable with the names above and will just leave the rest alone.

I’d bucket them three ways:

1) Basic

2) Actively Managed

3) Outsourced

Basic

I call it basic because it is the lowest effort, lowest risk, and offers the lowest returns. Some tokens literally require no action other than to buy and hold tokens in a wallet, while some require depositing tokens in a protocol that lends them out on your behalf. In these examples, you maintain full price exposure to the underlying asset.

Buy and hold examples:

1. DAI — Buy and hold on Coinbase for 2%

2. ALGO — buy and hold in Algorand Wallet for ~4%

3. XTZ — buy and hold on Coinbase for 4%

4. Staked ETH (stETH) — buy and hold stETH for ~4.5% after fees

5. ATOM — buy and hold on Coinbase for 5%

Lending:

Exchanges usually offer lending rates for deposits, which they lend out to traders who use leverage. Some rates are here: https://defirate.com/lend/. These are the equivalent of high interest rate accounts.

DeFi lending protocols also offer yield in return for staking your tokens. MakerDAO, Aave, and Compound are the three largest. Here is a breakdown of what Aave offers.

Notional Finance and Element.fi offer fixed rate lending and borrowing for single assets and LP tokens, respectively. Notional is pretty straight forward with their single asset platform (borrow USDC or lend USDC at 8.5%). Element is significantly more complex but lets you stake your variable-rate LP tokens from several different liquidity pools in exchange for a fixed rate note over a set term. I wrote a post about using Element for added yield on ETH.

Actively Managed

This is where you can actually participate in DeFi to find higher yields. In this space you can provide liquidity, stake tokens in asset management protocols, or use other advanced strategies.

Pure Staking — Most protocols and blockchains offer ways for users to stake their tokens to help secure the network and are paid a fee in return. For instance, you can stake your ETH to help secure ETH2, or just purchase stETH (Staked ETH) for 4.5% rewards. You can also stake your AVAX in the Avalanche wallet for about 4%. Often, governance tokens or other DeFi protocol tokens offer ways to stake their tokens on their protocol to access fees, like Curve, Convex, or Bancor.

Providing Liquidity — providing liquidity is a concept native to crypto and is the magic that powers decentralized exchanges, or DEXs. It entails staking both tokens of a particular pair into a pool that a DEX provides to traders as liquidity for that particular pair. As an LP, you earn fees based on the percentage of the pool you own — if you supply 1% of the AAVE / ETH pool, you are paid 1% of the fees that pool generates. Curve, Uniswap, Balancer, Sushiswap, and Bancor are the 5 largest DEXs, each with their own variation on the idea.

Yields depend on the percentage of the pool you provide and the volume of transactions against that pool. The stETH/ETH pool on Curve currently yields about 3% and is fairly stable.

Meanwhile, over on Beefy Finance, yields on some AVAX liquidity pools are significant, with the DOMI-AVAX pool yielding over 3,000%:

A downside of providing liquidity in a paired pool is “impermanent loss,” which can limit your returns due price changes in the underlying LP assets. If you are an LP in the DOMI-AVAX pool, impermanent loss is likely a minor factor if the pool is paying 3000%, but it’s still a factor. More on impermanent loss here. (Also, I have no idea what DOMI is.)

Most liquidity pools yield between 1%-10%, but what if you could use leverage to increase those returns? After all, there is little price risk in the stETH/ETH pool noted above, why not borrow some additional ETH and add it to the pool to collect more fees? Well, Alpha Finance offers a easy way to do this, with a number of pools yielding over 30%. There are specific risks to this type of yield farming which warrants additional consideration, but overall these yield farms should be safe as long as there are not wild price swings in one asset versus another in any given pool.

If impermanent loss doesn’t sound like something you want to take on, single-sided staking pools do not suffer impermanent loss and is a key component of Bancor v3 coming in early 2022. While they currently have an insurance mechanism active in Bancor 2.1, which returns any impermanent loss back to liquidity providers when they remove their tokens, there is a vesting schedule for that insurance benefit. V3 removes that vesting schedule and adds several other significant, and exciting, new features.

Asset Managers — If you don’t know where to LP tokens (Balancer? Uniswap?? Compound???), and don’t have the time to manage a portfolio of tokens, some protocols can help. Yearn was one of the first, and now the largest, “asset manager,” which programmatically finds the highest yield for your assets and deploys them automatically. BadgerDAO offers ways for you to deposit “wrapped” BTC (BTC traded on Ethereum) and earn yield, as well as several other strategies for Ethereum tokens. Yield on BTC is interesting because there are no DeFi protocols native to the Bitcoin blockchain. Yield optimizers, like Beefy Finance, provide a “cross-chain” protocol that provide yield opportunities, generally through providing liquidity, on several different blockchains like AVAX, BSC, or FTM. In addition, Beefy offers a healthy 13% yield on its native token for staking. It is called a yield optimizer because, like Yearn and other asset managers, they auto-harvest rewards for you. This means, for instance, Beefy automatically “credits” your account with accrued fees in real time, which saves you the time and fees you’d otherwise have to spend to claim those rewards, split rewards into two LP pairs, and then restake those tokens into a liquidity pool.

Option Strategies — I like this one. On Ribbon Finance you can stake several different assets into single-sided asset vaults that utilize options writing strategies for added yield. Options writing, in this case covered calls, is a classic investment strategy that can be a low risk way to increase returns. Their stETH vault is yielding about 20%, while their USDC vault is around 27%. These strategies are relatively low risk, do not expose you to impairment loss, and are fee efficient.

(Quick tangent: one of the coolest new financial primitives to come into this space is called a “Squeeth.” Bizarre name, but it’s a “perpetual option” that provides pure gamma with zero liquidation risk. That means it provides exponential exposure to upside, with exponentially less exposure to the downside. Basically, if price goes up, your return is x², but if price goes down, it is x^(1/2). Naturally, it’s massively beneficial for investors, so it is not permitted in the US.)

Nodes — The jury is still out on these. All protocols, including ETH, require a decentralized network of miners to maintain the blockchain and nodes to save all the data of the blockchain. There’s a ton of activity around new protocols offering “nodes” to investors, but by definition the data nodes that these projects portend to source earn no revenue. I think there is potential, but at the moment a lot of these protocols offering “infrastructure nodes” are essentially ponzi schemes, albeit transparent ponzi’s.

Outsourced

This is a fairly new concept and one I am focused on lately. The idea for these protocols is to provide a managed fund that the team manages on behalf of token holders. A core attribute for these protocols is the tax applied to transactions involving their tokens, sometimes as high as 15%. The tax serves as a source of revenue for the protocol that is used to fund the treasury, pay operational/marketing costs, and offer “reflections” to current holders. A reflection is a direct transfer payment from the transaction tax to all existing holders on a pro-rata basis. If I own 1% of all outstanding tokens, I get 1% of the reflection portion of the tax applied to every transaction. Additionally, holders of the tokens receive dividends from the treasury, as determined by the community or protocol team, as well as “reflections” from all buy/sell transactions of the token. The team either manages the treasury themselves or outsources management to other treasury managers.

Of these “DeFi-as-a-service,” “Finance-as-a-service,” DeFi3.0, or whatever else crypto Twitter is calling them at the moment, I am personally invested in a few, including Exponential Finance ($EXPO) and Reimagined Finance ($REFI). Both are developing and executing at a very high level, have very transparent and responsive teams, and have grown their treasuries significantly in very tough market conditions. I have learned a ton just reading Huf Haus’ posts on the moves he is making in the REFI treasury, while the small cap traders in EXPO have multiplied their small cap sleeve 25x over the last 2 weeks, posting their trades in real time. $EXPO is sitting at $9m market cap with about $900,000 in the treasury after launching 4 weeks ago, and pays about 57% APY in reflections. $REFI is $34m, has a treasury of $2.2m, and pays dividends directly from the treasury since removing their reflection tax. I think there is huge upside for both these tokens.

Another one I took a swing at is NodeSquared ($N2). It’s a node play and high risk for the reasons mentioned above, but even though most of those node protocols are fundamentally flawed, that doesn’t mean some won’t succeed. NodeSquared is a way to invest in a basket of “nodes,” vetted by a full time team. It also has extremely deflationary tokenomics as 10% of N2 supply has already been “burned” forever in the two months since launch. With over $2 million in real revenue coming in from the nodes they already hold (100% of which goes to buy back and burn N2), 30% average APY from reflections, and a market cap of $4m, I figure it’s at least worth a trade.

Now What?

This is a lot, and by no means exhaustive, but hopefully this provides some interesting opportunities for yield other than holding USDC in Coinbase account for 4%. If you are looking for a low-touch, fee-efficient way to earn a bit extra, I’d consider Ribbon’s options vaults, Alpha Finance, and potentially allocate a small portion to managed treasuries like $REFI and/or $EXPO. For yield on BTC, BadgerDAO has great options, and some of the yield opportunities on Beefy are hard to pass up, as long as the tokens you’re holding are worth long term holds.

Bitcoin respected Monday’s range and presented a textbook reason to wait for Monday’s range to form before taking any short term positions. BTC tested Monday’s range low before ripping through both Monday’s high and the recent high above. BTC is now in the weekly supply block between $39,700 and $44,000, which should provide a fair amount of resistance. If we can’t clear this supply area, I’d expect to see the equal lows around $35,300 tested again at the least. Zooming out, I would not be surprised if the 2021 range lows around $30,000 come into play, which could present the trade of the year if we go there.

BTC 1H

2021–2022 Range

Regarding Monday’s range...

If you are interested in short term trades, using Monday’s range is a great way to find areas of interest in the market. On Tuesday, BTC tested Monday’s highs before dropping back to sweep the range lows on Thursday. At this point, the idea is to wait for a close back inside the range, setting orders at the range low ($36,640) with a minimum take profit target of the range high ($38,735). Given a 3:1 risk / reward ratio, stops are set at $35,930, which also provides a small, but in this case important, cushion below the initial sweep of the lows. This type of set up (successive range limit tests) often results in further extension beyond the first test, and given the confluence of resistance above Monday’s high, taking 1/2 profits at the range high and 1/2 at the top of the fair value gap (FVG) area above is a potential way to exit the trade.

Going forward, the RSI indicator on the daily chart has broken out of, and so far successfully retested, an extended downtrend. The last two times this occurred, BTC subsequently rallied about 80% and 70%. Not only that, but the RSI is now coming off its lowest reading since March 2020, which, following a break out of *that *extended downtrend, led to a 160% bounce in BTC over the following 55 days.

BTC Daily with RSI and trendlines

BTC Daily, Mar 2020 selloff and recovery

To summarize, if the current supply zone provides enough resistance, the 2021 range lows mentioned earlier could be in play. Reaching the range lows would be a great opportunity to apply the Monday-range trade strategy above to the massive 12-month range while leaving the bullish macrostructure in place. Or, alternatively, the RSI breakout may be the sign the market is front-running everyone waiting for the macro range to play out and our next target is higher, potentially a breakout of the weekly supply and test of the three-day supply just above that.

The broader L1 market is following BTC’s lead with SOL, ETH, AVAX, ATOM leading the way higher since the start of February. My FTM/SOL trade from last week is still underwater — I guess the lesson so far is to not bet against a hot hand.

Major L1s since Feb 1, 2022

FTM vs SOL since Feb 1, 2022

January Recap

You can’t say January wasn’t uneventful. Forgetting price action for a minute, the amount of activity across the crypto space continues to grow. From funding rounds to regulatory posturing, Travis Kling sums it up nicely in his monthly newsletter from Ikigai Asset Management:

https://www.kanaandkatana.com/blog/january-2022-market-update

Notably, FTX and Blockdaemon raised Series C rounds at valuations of $32b and $3.25bn, respectively, while Phantom completed a series B, and Cointracker series A, at $1.2b and $1.3b, respectively. This is just in the month of January, the third month of a slow grind down in the markets in general, and does not account for the funding rounds of several over companies who did not release valuations. The ability for companies to raise funds from anyone with access to a blockchain wallet is a sea change compared to the tradition fundraising process, which takes place over years and only rarely minted new unicorns. According to CoinMarketCap, there are 82 unicorns by coin market cap, but it seems equity raises are following close behind. The massive equity raises in January are evidence that not only are investors very eager to find exposure to the crypto space, but they better be quick to find it.

Volokh on the 4th Amendment and Crypto

Writing on the a16z blog, Eugene Volokh considers the Fourth Amendment implications of privacy and DeFi. He unpacks the privacy implications some portions of the recent Infrastructure Investment and Jobs Act (HR 3684) could impose on miners, developers, or individuals transacting on blockchains. I highly encourage you to read the whole thing, not only because Eugene Volokh breaks down legal considerations in ways even I understand them, but the conclusions he reaches here are not what you might expect.

Is it safe to come out yet? Not calling a bottom, but at least the selling seems to have abided after an eventful week in the markets in general. Fed concerns and over $3.1 trillion in notional equity options expiring on Friday led to stocks selling off aggressively, which means so did BTC, which means, well, it was ugly.

Nasdaq and BTC, indexed to 100

What happens now? Once scenario I have only just started to see is the idea that BTC continues to trade in a wide range going back to late 2020. Geopolitical events, the FOMC, and technical drivers (opex) all played a part in market action the last few weeks, but only one of those drivers is in the past. It is likely the Fed presents slightly less hawkish this week to calm some nerves, but I still the think it’s too obvious. Not to say we don’t get a bit of relief, but futures OI is only slightly down, funding has only just started to flirt in negative territory, and well, up seems too obvious at the moment.

Leverage in COIN margined contracts has shifted to STABLECOIN margined contracts. Less risk of liquidation cascades, but still elevated:

Funding rates have barely started to go negative, after several weeks of generally negative rates in May, June, and July:

SOL-out

Once again, issues with SOL uptime has some concerned it has outran its coverage. This time, an outage of about 48 hours had particularly poor timing, as it hit right at the open on Friday, right as the market was starting its Friday rout, preventing some from posting collateral or closing trades in order to prevent liquidations. This marks the seventh instance of significant downtime caused by network congestion, and while the team is quick to ship improvements, I would venture it’s only a matter of time until users find greener pastures elsewhere.

Or, it already started with SOL the clear laggard since my last update:

Trade Idea:

SOL had a massive rally in 2021 driven in part by massive marketing and grant programs. Network adoption and development activity paced the group late in the year. However, chronic technical issues are starting to have an effect on the narrative, and other L1’s are gaining traction. Fantom, which also promises extremely fast transaction speeds, is gaining significant developer attention, especially recently as Daniele Sestagalli and Andre Cronje are actively building on FTM, bringing a significant user base (and Twitter following) along with them. FTM is also growing more organically than SOL with limited marketing and a clear embrace of the grassroots culture that typified the early Ethereum days. Perhaps most importantly, MCAP / TVL on Fantom is only 0.44 as of Jan 24, while SOL MCAP / TVL is 3.72, according to DefiLlama. This is compared to 2.48 for Ethereum, which is also about average for other EVM compatible chains.

https://defillama.com/chains

SOL market cap is $27.8bn while FTM is just $5.6bn, putting FTM/SOL at 0.20. Given no growth in FTM’s TVL and a MCAP / TVL equal to ETH’s at 2.48, FTM market cap should be $31.4bn. While that would make it the sixth most valuable chain, even discounting FTM’s MCAP by **half **puts FTM/SOL at 1.12.

FTM/SOL is working so far this year, and looks poised to continue in 2022.

Element works by effectively splitting interest bearing tokens into two tokens: a principle token (PT) and a yield token (YT). The PT holds the same value as the coins a user stakes in the protocol, the base asset, while the YT accrues value over time and represents the interest your base asset would have otherwise received. Because your base asset generates a floating rate, so do the related YTs. As of now, Element supports the staking / minting of nine tokens:

• Non-LP tokens: DAI, USDC, xBTC

• Curve LP tokens: LUSD v2, allUSD v2, MIM+3CRC, 3Crypto v2, stETH v2, EURS v2

Once minted, PTs & YTs are fungible, and Element hosts an exchange for each. YT markets are still very thin, with just over $1m in liquidity total across all pools. But there is decent depth in the PT pools with over $120m in liquidity across the USDc and steCRV pools.

You can read Element’s construction paper to learn more, or check out this dashboard on Dune Analytics. Some of the possibilities Element’s protocol enable are in development by their partners, including auto-compounding yield tokens to see 60x increase in spot stablecoin yield, with no liquidation risk, but here I will just focus on increasing yield on holding spot ETH.

By using Curve and Element, we can build a position in spot ETH that yields 7% or more. While some of the steps introduce only incremental increase it yield, hopefully this also highlights the composability potential native to most of DeFi.

Trade

Buy & hold ETH for 12 months with 7.8% yield.

Given

1. stETH trades at a discount to ETH, currently ~0.9825

2. stETH yields 4.8% on Lido, the largest staking service

3. Curve stETH / ETH pool yields 3.13%

4. Element Finance fixed-rate yields 3.65% (for stETH swap)

Assumptions

1. Beacon Chain merge is complete and ETH2 is live in 12 months

2. Element fixed rates remain above LP vault / floating rates

3. Fees are ignored

Mechanics

1) Purchase **stETH/ETH **on Uniswap, which has traded in a range between .09725 and .09825 over the last month. Owning stETH yeilds 4.8% after fees, so effective stETH yield is at least 1.75% + 4.8%, or 6.55%.

24 hour average of stETH / ETH on Uniswap

2) Stake **stETH in the Curve stETH/ETH pool. Do not stake steCRV, the LP tokens. The Curve stETH/ETH **pool currently yields ~3.12% with over $4.5bn in liquidity. However, the Curve pool will split your stETH 50/50 into stETH/ETH, halving the Lido rewards rate in step one above.

Curve stETH / ETH pool

3) Because fixed rates are currently higher than the underlying, it makes sense to swap the steCRV for a fixed rate token on Element. Go to Element.fi and swap **steCRV **for **ePyvcrvSTETH, **the PT’s representing staked steCRV on the Element platform. The PT maturing April 15, 2022 trade around 0.9889 ETH, representing a yield of 3.67%. Most terms on Element are about six months, so at least one rollover will be required as the Apr 15 term expires. Because this is a swap, you will not receive Curve seETH/ETH LP fees.

(Note: if the yield on the Curve stETH/ETH pool is greater than the fixed rate notes on Element, then the above would result in a loss of yield. In that case, you can continue to collect Curve LP fees by splitting your steCRV into PT and YT and stake each in the Element pools, which would be additive. Volumes, and therefore fees, are still very small at only 0.05% for the PT pool, but should improve over time.)

April 15, 2022 steCRV — ePyvcrvSTETH pool on Element

4) At the end of 12 months, claim the full value of the steCRV you had swapped at a discount on Element. Unwinding the trade would require redeeming your stETH from Curve then redeeming ETH.

Risks

1. Execution Risk: Beacon Chain migration execution, leading to longer wait to receive full stETH

2. Market Risk: ETH price risk; minimal impairment loss on Curve stETH/ETH pool

3. Interest Rate Risk: Element fixed rate rollover

4. Competition Risk: decrease in staked ETH rewards, caused by increase in total ETH staked on the Beacon Chain; decrease in Curve stETH/ETH fees due to higher yielding alternatives

5. Smart Contract Risk: This strategy relies on smart contracts from Lido, Curve, and Element. All three have been audited and backed by highly regarded, and active, investors.

Alternatives

There are other ways to find yield on ETH, but I wanted to highlight one way you could capture decent fixed rate returns just by holding spot and leveraging existing, and safe, decentralized protocols. You could easily layer leverage or derivatives on this strategy to increase returns, but if you wanted to explore different opportunities to earn yield on ETH, here some alternatives:

1. Ribbon.finance Weekly covered call strategy on stETH. Currently yielding ~16%, but the protocol charges a 2% management fee and a 10% performance fee. Options come with a different risk profile as well.

2. Notional.finance Notional offers fixed rate notes, like Element, but only accepts spot deposits of DAI, ETH, USDC, and wBTC (instead of interest bearing assets like Element). Fixed rates are lower for ETH (2.66% currently) or you could provide liquidity for the ETH pool, which yields 4.53% (variable).

3. Alpha Homora Leveraged yield farming.

4. Spot Lending** **Most decentralized lending options, like AAVE or Compound, offer very low rates on ETH deposits. Currently, AAVE is pays 0% while Compound pays 0.08%. Centralized exchanges offer better rates, but max out at 8.78% on BitFinex, with Celsius runner up at 5.35%. BitFinex and Celsius are, of course, centralized organizations.

References

Element construction paper

**Excellent **summary of the Curve stETH/ETH pool, from the perspective of a MakerDAO governance proposal: https://forum.makerdao.com/t/curvelp-steth-eth-collateral-onboarding-risk-evaluation/11224

Notional Finance: https://notional.finance/portfolio

Lido on Element Finance: https://help.lido.fi/en/articles/5407347-a-guide-to-element-finance

Element on Curve: https://medium.com/element-finance/how-to-get-crvsteth-36ae70536228