Why does price inflation matter in DeFi?
Decentralised Finance appears to be the disruptive young and creative little brother of traditional finance but, both children have one big old dad which states the rules: economics.
DeFi growth overtime and technology progress at light speed but some old economics concepts still need to be mastered to manage a project properly. Inflation is one of them.
In order to explain this concept in simple words, we will try to split this into a set of rules and bring some examples of good and bad practices:
Bad practices
Rule 1: High APRs/APYs are not healthy
A lot of projects promise stellar APRs/APYs and that’s not because they have “better” farms. APRs are in fact only controlled by the smart contract and consequently the team can decide which amount to distribute/not distribute. The fact that some projects go out with fancy marketing, claiming amazing and advanced smart contracts, is simply false. This technique only impacts the price as the rewards are very high and if there is no buy pressure, then only token sellers remain on the market. This is very bad practice that leads normally to a large market cap for the team, which then subsequently sells off tokens and exits. The team’s intention was in fact never to develop a real product or they just didn’t understand DeFi economics properly.
KingDeFi’s approach to this topic is different as we maintain a high APR only when supported by strong partnerships and new tech milestone achievements. Also as soon as TVL remains low in order to reward early investors and holders. We as well want to reward early investors and holders that have added to KingDeFi’s pools when TVL was still low.
Quick tip: stay far from stellar APYs/APRs with no consistent development, partnerships or no clear view on token emission strategy
Rule 2: Non-native token farms increase price inflation
Another very bad practice — and we can find plenty of examples out there — is to issue farms with non-native tokens as a liquidity pair. If a project is issuing for example a BUSD/BNB pool to earn their own token, then nobody has an incentive to buy their native token. Instead, it is only farmed to be quickly dumped thereafter.
Quick tip: always monitor the ratio between native and non-native TVL and pay strong attention to projects with a massive amount of non-native farms
Rule 3: Too many farms produce inflation
There is a very clear misunderstanding when it comes to advanced smart contract technology. A good smart contract is a scalable one which means you can issue one smart contract and then apply it to all other existing token pairs. This approach brings scalability. Having said that, most serious projects indeed follow such an approach but investors think that if a project issues 100 farms and is developing 100 contracts, then the devs seem to be better. That’s definitely not the case. Don’t buy more just because a project has a lot of pairs as this is misleading and in fact bad practice. The more pairs they issue, the more rewards they distribute, the more they inflate the price. There is no additional technology developed in the background.
Quick tip: don’t get blind believing that a lot of farms means great solidity devs
Rule 4: High TVL can be counterintuitive
We were made to believe in the last months of the bull market that a project with a large TVL is very healthy, has a great technology and a great team in the background. This is not always the case as it’s only a matter of inflation, supply and demand management. What is extremely important is how the TVL is generated and how it’s linked to the emission strategy. Let’s illustrate two practical examples:
1. Project 1 has a 60 million TVL of which 90% comes from non-native token farms and only 10% from native pairs. That’s extremely risky as the project is minting their native token from other token pairs. Once the market dives into a correction, this will eventually cause an inflation effect.
2. Project 2 has “amazing farms” where you can stake BUSD and earn BUSD. How would this be possible? Quite simply put, most of the projects made so much money during the bull market that they kept buying other tokens in large quantities and afterwards they distributed them back… This is fine but for how long? … and how to keep this type of farms alive for the long-run? They only have one options: to sell their own token in order to buy more BUSD in order to distribute in their farms. In a bearish momentum, this practice is extremely inefficient and price disruptive.
Quick tip: always look at TVL constituents
Good practices
Rule 1: Always manage the selling pressure
KingDeFi’s vision is to distribute rewards and manage APR in a consistent way: issuing new farms alongside new milestones and partners, always having native token as one of the main pairs as well as adding double reward programs which helps to decrease KRW rewards as they are combined with projects that we partner with. The secret is finding the right balance between token emissions and token buy pressure driven by new achievements and partnerships.
Quick tip: look at the full picture, ensure the team as a clear vision and stay far away from projects which focus their business model only on farming utility
Rule 2: Reward early investors when TVL is still low
Most of our investors may ask themselves why rewards on our platform are currently that high and there’s a simple answer to this: we want to provide an advantage to our early investors during a time TVL is still low. Early investors are as well long-term holders as they know the team, the project, and the vision behind. These users will stay with us even during bearish market conditions, so we believe they deserve to have an opportunity to accumulate KRW tokens before everybody else.
Quick tip: stay far away from projects that never adjust reward distributions
Rule 3: Follow the market
Managing a DeFi project in a bullish market trend is very different from a sideways or bearish market. Most of the very famous DeFi projects still need to show their capabilities to master token inflation in adverse market conditions. We come from a financial background and know differing market cycles pretty well. Here are some examples of what you should not do during adverse market times:
- Don’t waste your budget for marketing as people are less prone to take risks anyway and instead will take a closer look at the underlying technology.
- Avoid to spend money for listing on central exchanges (CEXs). If trading volume is very low, you’ll pay for a service that doesn’t bring any additional value to your project.
- Don’t partner with random projects. If there is “blood on the street”, even big players will be happy to offer flexibility.
Instead you should:
- Focus on development and technology
- Close some good deals by taking advantage of weak market conditions. In a declining market, other projects are always happy to provide better terms.
- Avoid crazy APRs or buyback price manipulation activities.
Quick tip: Always ensure that you invest in projects that have a clear budget control approach in place
Rule 4: Diversification is key
KingDeFi is characterized by a multi-service platform approach. This means we are not only a farming project and we don’t only focus on yield optimization. Listing, monitoring, tracking, search engines and analytics are an extensive and diversified set of features which we offer to our token holders. Business diversification strongly helps client retention during adverse market conditions.
Quick tip: Invest in platforms which have a holistic approach to service offering
