What’s next for Yearn Finance?
If you were paying any attention to crypto news in the beginning of December, you may have noticed a lot of stories with headlines suddenly mentioning “Yearn Finance”. “Yearn Finance Set to Gobble Up SushiSwap for its fifth DeFI merger”. “Yearn Merges with Cover, DeFi Protocol’s 4th Deal in a Week”. “Yearning for Pickle? Two DeFi Protocols Merge”.
While the crypto world is probably the most frothy of all Fintech sectors, it’s still quite unusual for a software project or company to do four mergers in a week? What’s going on with Yearn Finance and what could this mean for the future?
What is Defi?
Before we begin talking about Yearn Finance, let’s begin talking about “decentralized finance”, which builds upon a foundation of “smart contracts” to replicate financial markets and products.
As I explained in my previous blogpost, smart contracts are self-executing code on a blockchain that automatically implement the terms of an agreement between parties. They are not traditional legal contracts, which require courts or some third party to arbitrate, but rather computer programs that complete tasks on the blockchain using agreed-upon sources of information to confirm the conditions have been met (these sources of information are generally referred to as “oracles”).
What “decentralized finance” does is attempt to replicate existing financial services using decentralized smart contracts to intermediate between parties.
In this blog post, Nick Estorga details some potential financial exchanges that decentralized finance (De-Fi) is facilitating using smart contracts:
User Story: Alice owns Ethereum but has an expense she needs to cover with USD. Rather than close her Ethereum long position and pay short term capital gains tax, she instead deposits Ethereum into [the decentralized lending platforms] Aave or Compound as collateral, then borrows USD stablecoins against this collateral. When she’s ready to pay off her loan, she returns the USD stablecoins to the contract and receives her ETH back.
User Story: Bob wants to earn interest on his USD holdings, but is dissatisfied with the APY offered by his local bank. Instead, he converts his USD into stablecoins and lends them out to users like Alice using Aave or Compound. He collects interest daily and withdraws his tokens when he needs them.
These are not exhaustive examples and I encourage you to look at the other examples he goes over, but sufficed to say using smart contracts you can lend and borrow crypto assets, exchange those crypto tokens on decentralized exchanges and create derivatives as well.
What is Yearn Finance & how does it work?
Much like traditional finance, decentralized money managers have been built to help investors with those De-Fi transactions — the most influential being Yearn Finance. Imagine if in the second previous example, Bob had realized that Compound was offering a higher APY than Aave; he could switch his stablecoins from one platform to the other to make more money. However this switching his funds from one protocol to the other could be time consuming and Ethereum network fees to confirm the transactions on the Ethereum blockchain would cut into his profit. Instead what Bob could do is put his money into a decentralized money manager like Yearn, which invests his funds in either its Earn product, switching investor assets between the most profitable lending platforms or its software “vaults” that invest in a particular investment strategy, voted on by the community of Yearn governance token holders, instead of doing these transactions manually.
Yearn was initially launched in February of 2020 by Andre Cronje and conceived as a way to minimize costs for those investing in stablecoin protocols. As the protocol developed, Yearn released a governance token[1] in July of 2020, which brought it to prominence especially since Cronje the founder didn’t keep any of the governance tokens, which was rare in the De-Fi space. Since then Yearn has not only further developed its vault infrastructure to allow for more sophisticated investing strategies but also developed new products like yInsure, that allow for insurance to cover smart contract failure.
Even more exciting, in the age of revenue less “unicorn” start-ups is that Yearn makes money — so far generating 3.8 million dollars in revenue in the 3rd quarter of 2020 with a cost of only $306,000, with 2.46 million being paid out to owners of the governance tokens.
What are the mergers?
In order to explain what’s the future of Yearn, let’s review some of the projects that Yearn has decided to merge or collaborate with in the recent months:
As you can see it’s been a busy past couple months for Yearn!
What are upcoming new developments?
In addition to the mergers, Andre Cronje is developing two new projects, Yearn v2 and Deriswap. Yearn v2 (version 2) will be an update to the platform on 1/18/21 that will integrate many of the collaborations that were previously mentioned as well as provide updates to make Yearn’s vaults more efficient and improve the UI interface. [8]
Deriswap is designed as an automatic market maker that will provide the ability for users to trade options, swaps, futures and place more sophisticated types of trade orders on the platform. While not directly affiliated with Yearn, Cronje has indicated that Deriswap will be used to implement more complex vault strategies in the future and will integrate with Sushiswap. [9]
What is Yearn’s strategy behind these mergers?
After reviewing the list of collaborations we may wonder why Yearn is attempting to collaborate with so many other De-Fi projects at once — for a variety of reasons in modern management theory it is generally accepted that new companies should specialize on their “core competency” and not attempt to do too many things at once. With the exception of the Pickle merger, these don’t seem to be traditional “mergers” where one firm purchases the ownership of another company, (and certainly considering how De-Fi projects are structured this would be very tough to undertake a traditional merger) but rather strategic joint ventures where different De-Fi projects collaborate towards a common goal.
I believe there are one big reason why this strategy is good for Yearn beyond the immediate benefits to Yearn users that these collaborations allow — these collaborations help mitigate the risk of forking. “Forking” is when a software project’s code is copied and redeployed, sometimes with tweaks. One common fear of De-Fi products that pay fees to their investors and developers is that people can come along, copy the code of the project, and then charge lower fees to do that same thing as a “fork”. Yearn itself was forked in 2020 (the fork being named DFI.Money) and many other popular De-Fi products have been forked, including most famously the decentralized exchange Uniswap, which was forked by the aforementioned Yearn partner SushiSwap. Andre Cronje himself complained a few days ago regarding the ever present risk of forks to De-Fi projects.
By partnering with so many other protocols and projects Yearn is building itself a moat that would prevent other people from forking the underlying Yearn protocol and charging lower fees. While the forks could potentially offer lower fees that Yearn, they would not be able to replicate the vast network of collaborations that Yearn has accumulated over the past months and users who switched to Yearn forks would soon find themselves using outdated products with sub-par features.
By preventing forks from coming along and stealing away marketshare, people can be more confident in the Yearn platform and developers are incentivized to continue developing features for Yearn knowing that their hard work will be rewarded.
The Future of Yearn
I believe that as the De-Fi universe matures, Yearn will come to inhabit a role analogous to money-market funds do today. As platforms become more secure and tested, especially after the Yearn v2 update, the risk associated with lending out tokens should fall in line with the interest rates that are being provided with Yearn and it will be commonplace to supplement fixed income strategies with De-Fi products like Yearn.
A frequent criticism regarding De-Fi money managers like Yearn is why someone would invest their money in a product like Yearn and get 8% a year in interest, with the possibility of their funds being lost or stolen, when they could simply invest in something like Bitcoin or the Ethereum token itself and realize much greater gains. Ignoring that such exponential growth won’t last forever, this argument ignores that different investors have different goals — there are going to be investors who will want to borrow and lend their stablecoins as well as other crypto assets and Yearn and other decentralized money managers will help other investors provide liquidity to that market. Money market funds can be quite profitable for their managers (i.e. Yearn governance token holders) while still having a place within the finance ecosystem despite their low yields because they satisfy a need for both investors (low risk assets that pay slightly higher interest than bank accounts) and debt issuers (a market for short-term funding).
Before the rise of discount brokers like Charles Schwab, investors generally traded stocks and financial instruments through “wirehouses” — financial institutions that provided their investors with a full-suite of financial products and services, not just order execution, because of their convenience and the trust afforded by being large institutions; something especially important at that time when many small brokers were fly by night operations or outright scams. With the new financial market represented by De-Fi, this market need for a trusted institution is again needed. By engaging in these collaborations Yearn is creating the De-Fi equivalent of the wirehouse, where an investor can meet most if not all of their financial needs on one platform, and so far the only one of its kind that exists today. Yearn will be perfectly positioned to take advantage of investor interest as De-Fi matures. In short, I believe it’s one of the most interesting experiments in FinTech today and with such a talented developer team behind it I’m excited to see what comes next!
Footnotes:
[1] A governance token is crypto software that allows the ownership to have a vote regarding the underlying protocol, similar to stock shares that allow voting rights in traditional companies.
[2] https://medium.com/iearn/%CE%BC%CE%B1-%CF%84%CE%BF%CE%BD-%CE%B4%CE%B9%CE%B1-yearn-x-akropolis-16f5351af35e
[3] https://medium.com/iearn/yearn-cover-merger-651142828c45
[4] https://cointelegraph.com/news/yearn-finance-announces-another-merger-with-the-cream-lending-protocol
[5] https://medium.com/iearn/yearn-finance-x-hegic-binary-options-351dcad96d01
[6] https://www.coindesk.com/yearning-for-pickle-two-defi-protocols-merge
[7] https://medium.com/iearn/yearn-x-sushi-%E8%A1%8C%E3%81%A3%E3%81%A6%E3%81%8D%E3%81%BE%E3%81%99-41b2f78b62e9
[8] https://beincrypto.com/yearn-finance-developer-version-2-teasers/
