Yearn Finance Vaults: Knockin’ on DeFi’s Door

Protocol Composability Brings User-Friendly Efficient Yield Generation

eaglelex
BanklessDAO

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Yearn vaults. Graphics by @Dippudo

Yearn Overview

The first and primary goal of Yearn Finance is creating an easy gateway to DeFi. Since its early days, in January 2020, the creator of Yearn Finance, Andre Cronje, pointed out the need of providing easy access to DeFi’s potentialities. After the incredible DeFi summer of 2020, most everyone is aware of the potential inherent in lending and borrowing protocols, but putting digital assets to work and generating passive income is not that easy. Understanding blockchain technology and smart contract technicalities are required in order to evaluate opportunities and risks related to a project. The goal of Yearn Finance is making DeFi user-friendly, as people simply provide liquidity to a protocol which will generate a return (yield) for the users.

Yearn Finance is a flagship protocol in the industry. It has pioneered asset management in the crypospace for passively earning yield on risky assets. Yearn is often described as an automated asset manager, which allocates depositors’ funds in order to get the highest possible returns. However, during the last year, Yearn has become a symbol of decentralized finance as it encapsulates all its strengths in comparison to traditional finance (TradFi). Yearn allows everyone to get returns that would seem impossible through banking deposits and it enhances DeFi’s capacity to build money legos, i.e. the interoperability of DeFi protocols, which results in efficient and creative financial services and products.

Not surprisingly, Yearn’s main contributor banteg, the known “bunny talisman of yearn,” has been represented on Fortune’s iconic cover of August 2021. To this effect, Yearn embodies the “battle” of crypto and DeFi versus TradFi.

Fortune magazine cover August 2021

How Does Yearn Make DeFi Easy through yVaults?

The aim of making DeFi easy and profitable for users is mainly achieved through the most prominent Yearn Finance product, the so-called yVaults. Vaults are presented as savings accounts for crypto assets, which accept deposits and route them through strategies that should “seek out the highest yield available in DeFi.” When users deposit tokens in a vault they get yVault tokens in return. These tokens represent a kind of receipt that also indicates the users’ share of the yVault in which they are participating in. For example, in depositing WETH tokens, users get yWETH tokens in return. If the yVault generates profit, the value of the yVault token will increase, as there are more underlying tokens in the yVault to redeem upon withdrawal. Pretty neat huh?

As it will be seen, “strategies” play a very important role in the yVaults architecture. These strategies are decided by the Yearn Finance brains, an essential part of the Yearn contributors. The underlying assumption seems that Yearn Finance is able to do things better than the average DeFi user or that the average user does not have time to do proper research on yield generating protocols. Both are true. However, there are more complex reasons that this article will try to explain.

yVaults in Numbers: A Success Story

One of the most important indicators to assess the success of a DeFi product is the total value locked (TVL), namely the total amount of underlying supply being secured by a specific application. Yearn’s TVL is currently 5.44 billions USD on Ethereum and 354 million USD on Fantom, but during the last year it almost reached 7 billion. According to Defi Llama statistics, Yearn is the 13th protocol of the DeFi ecosystem for TVL. Not too shabby.

Source: Yearn Science

The more than 50 yVaults bring to the Yearn community significant revenue. Approximately 100 million USD per year in just fees collected from Vaults enter into Yearn’s treasury. The yVaults follow a set fee structure: 20% Performance Fee is deducted from yield earned every time a vault harvests a strategy; 2% Management Fee, which is taken as flat rate from vault deposits over a year. The fee is extracted by minting new shares of the vault, thereby diluting vault participants. This is done at the time of harvest, and calculated based off of time since the previous harvest.

The performance of a vault is expressed with the “Annual Percentage Yield” (APY). This is the main criterion to decide whether to provide liquidity to the vault. Obviously APY differs in every vault depending on the type of token that can be supplied. Some tokens, as stablecoins, are in high demand by the market; others, like governance tokens, do not have many use-cases. Starting from v2, no withdrawal fee is applied to users who exit their funds from a yVault. Moreover, Yearn publishes quarterly financial reports on GitHub, where users and members of the community can check the yVaults revenue.

The capacity of generating revenue makes Yearn Finance a DeFi protocol with some of the strongest fundamentals. It should also be noted that Yearn does not pay incentives to its users. The strong fundamentals and the serious approach have not produced a noteworthy price action of Yearn Finance’s governance token YFI, which has regrettably underperformed compared to other DeFi projects in 2021. This reveals the difficulty of matching a very well functioning protocol with an advantageous tokenomics strategy. But the core team has worked on a proposal for ameliorating the current tokenomics, which was recently accepted by the community.

The Substance of yVaults: The Strategies

The strategies are the essence of Yearn’s product. In v1 every vault could only support one strategy. In v2, it is possible to implement up to 20 strategies per vault. This innovation is very important as it increases the flexibility of the protocol and gives the possibility of efficient management based on different market scenarios. To limit the exposure to strategies which cannot anymore increase the APY, each strategy has a capital cap. Until now, Yearn members deployed 242 strategies within the different vaults. For every strategy, two actors, the guardian and the strategy creator, oversee the strategy performance and are empowered to take action to improve management or intervene in critical situations. After the approval of proposal YIP-52, the profit of vaults is equally split between strategist and treasury. This creates a strong incentive for contributors who work to write the best possible strategies.

Of course it is not possible to describe each strategy in its entirety. Some are very easily understandable. For instance, according to one of the strategies (SingleSidedBalancer staBAL3Pool USDC) of the USDC yVault (yvUSDC), USDC is deposited to the DAI-USDC-USDT Stable Pool on Balancer.fi, the generated BAL is harvested and sold for more USDC, which is then deposited back into the strategy. Here an essential knowledge of Balancer’s protocol is enough to understand the scope of the strategies. But things are not always that easy! In this regard, one type of vault deserves particular attention.

One of the most significant components of Yearn’s infrastructure includes a collaboration with Curve.fi. In fact, several yVaults provide liquidity into Curve pools and stake the liquidity provider (LP) tokens into the respective gauges, earning CRV rewards. One of the most important vaults is the yveCRV-DAO (“Backscratcher”). This vault converts CRV into yveCRV, and lets depositors earn a share of Curve fees which are boosted over to what depositors earn staking at Curve. The more CRV converted, the greater the weekly rewards. Every Friday, these can be claimed from the vault as 3Crv (Curve’s 3pool LP token). Yearn, itself, deposits 10% of the earned CRV into the Backscratcher and gives its 3crv rewards to vault token holders which is where the boosted weekly rewards come from. In this case, depositing is non-reversible: CRV can only be converted into yveCRV, as the CRV is perpetually staked in Curve’s voting escrow.

“Yearns objective is clear: Accumulate as much CRV as they can to achieve the highest possible boost for all vaults.” — Ben Giove

On this note, Yearn entered a sort of competition with another protocol, named Convex Finance, with respect to the boosted CRV rewards (dependent on the amount of veCRV held and liquidity in the pool). Convex is a protocol designed to help Curve liquidity providers and CRV holders to maximize their yields. Due to the similar strategy and the aggressive approach, it has been questioned whether Convex could be depicted as a Yearn killer. Almost 8 months after Convex launch, it seems that Yearn is not only alive but also in a very good shape! The most immediate answer is: Yearn is not a simple CRV farmer. In more general terms, the success of Yearn is given by the significant return of their strategies. Yearn encourages everyone to bring value to the protocol in shaping new strategies concerning different tokens or protocols. The incentives are very high and give rise to a win-win situation for the users, the strategists and Yearn’s treasury.

To acquire precise knowledge about the vaults’ characteristics, the Yearn team has created a vault encyclopedia. It gives direct and up-dated multi-chain information about every vault deployed by Yearn. On Ethereum, the vaults are subdivided in four categories: Stables, DeFi Tokens, Curve Pools and Retired Vaults (which are no longer available). The tool automatically updates the content and, in the near future, it will support multiple languages.

A Quick Guideline: How to Use yVaults

Yearn’s vaults are at the same time simple and complicated. The examples of strategies seen before demonstrate that DeFi could be hard to understand for inexperienced users. The composability between different protocols gives results that are difficult to assess without a deep knowledge of the involved technicalities. Nevertheless, these complexities do not affect the use of the protocol, which is in fact very simple, as it will now be explained.

First it is necessary to connect the wallet and choose one of the chains on which Yearn is deployed: Ethereum or Fantom.

Source: Yearn.finance

The user has then to select the vault to deposit into and enter the amount of tokens that he or she wants to deposit into the vault.

Source: Yearn.finance

Afterwards, the user should click “Approve” or “Deposit”, depending on if there were previous approvals. The wallet will ask to confirm the transaction. This will take about 3 minutes, but it is possible to speed up the transaction by paying a higher gas fee to the network.

Source: Yearn.finance

When the transaction succeeds, the user will see the deposited balance in the vault’s interface, which should appear at the top of the vault list.

Source: Yearn.fi

In order to withdraw, the user has to select the vault, and click the “Withdraw” tab; then enter the amount to withdraw, or click “Max” to withdraw the entire balance. After having clicked “Withdraw”, the wallet will ask to confirm the transaction. When the transaction succeeds, the tokens will show up again in the user’s wallet.

Given that many of Yearn’s vaults generate yield by using Curve Finance liquidity provider (LP) tokens, which are acquired through depositing into a Curve pool, frequently the user does not have the required token for the vault. To solve the problem, Yearn offers a “zap” feature to convert user’s tokens into the tokens requested by the vault in one single transaction.

To track how the USD balance changes while the user’s assets are in a vault, it is possible to connect the wallet to a portfolio tracking product. The balance does not increase continuously. Profit is distributed to your share of the vault when the harvest function is called, which happens on a fluctuating basis.

These are the resources suggested by Yearn to monitor the vaults’ returns:

Yearn is “DeFi made simple.” The new user-interface of v3 has additionally provided an intuitive and user-friendly system. The users have basically only to connect their wallets, click on a button and assist in the yield generation. If one trusts in the protocol, the essential element to evaluate whether to perform the transaction is in theory the APY. Nevertheless, it is advisable to check and understand the strategies behind the yVaults, as every strategy entails a certain smart contract risk. Yearn contributors are available at any time on Discord or Telegram, to answer questions and give information.

Assessment

Why should people use yVaults? Of course for an average DeFi user it would be difficult to shape and implement a strategy like the ones which are created by the experienced Yearn strategists. But it is known that copy-pasted investment strategies are commonplace! The reasons of yVaults success are related to other — more important — elements.

First, yVaults grant a certain security to the users. Yearn Finance has been hacked in the past and has repaid its debts to the victims. In DeFi risks will always be there, but Yearn devotes the maximum attention to smart contract audits and code evaluations in order to avoid risks for their users. The protocols that are connected to the vaults are carefully evaluated to limit financial and technical troubles. Yearn has founded yAcademyDAO, a community-driven approach to blockchain security to create sustainable and collaborative blockchain security and ensure that talent is properly utilized.

Second, Yearn brings capital efficiency to DeFi. The operation of the vault limits for the single user the amount of gas fees that it would face individually in adopting the same strategy. In addition, the Yearn team is working on smart contract automation. As written in one of the latest issues of the Yearn newsletter:

“Scalability requires reducing manual processes.” The aim is creating automated systems, which take decisions based on data analysis.

All in all, Yearn vaults are here to stay and every new DeFi product could theoretically be the basis for a new strategy to generate yield. With its strong and engaging community, Yearn will therefore continue to be an essential component of DeFi’s future!

🏃‍♂️ Action items:

👉 Follow Yearn on Twitter and join Yearn’s Discord server

👉 Consult the Yearn Vaults’ encyclopedia

👉 Visit the Yearn blog/content aggregator

❗ This post does not contain financial advice, only educational information. By reading this article, you agree and affirm the above, as well as that you are not being solicited to make a financial decision, and that you in no way are receiving any fiduciary projection, promise, or tacit inference of your ability to achieve financial gains. You also affirm that the sole purpose of reading this article is for expanding your educational awareness and nothing more.

✍ About the Author:

eaglelex is a Law Professor interested in blockchain technology, DeFi and DAO governance

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