To Prepare for the Next DeFi Bull Run, First Reflect on Lessons Learned

Decentralized finance, particularly on the retail side, has seen many hot trends develop over the past year, usually followed by a series of forks (copycats) which have ultimately caused fast saturation. This rate of evolution in DeFi means there are new opportunities to make money quickly and lose it if you’re not always on and moving fast. We have just witnessed this with the Terra ecosystem crash.

Layered Farming

Started in the early days of Binance Smart Chain and introduced by Goose Finance, Layered Farming was the start of what is known today as ‘degen farms’. They were protocols that offered incredibly high yields on tokens (1,000–50,000% APR) which typically inflated and declined in value very quickly. Goose Finance offered a new layer every week and started with a token available for sale which could be staked for 50–100k% APR. Similar to what happened with its forks, each layer token inflated very quickly and eventually went to zero. After 3–4 layers, the market realized the protocol was simply a Ponzi scheme rewarding those who bought and staked the earliest while leaving others holding the bag, who were not able to exit in time.

From here, many subsequent forks arose which basically involved copying and pasting the Goose Finance code under a different brand/user interface. Since Goose Finance had a small following relative to the entire DeFi ecosystem and given that this Layered Farming launched in the earlier stages of non-Ethereum DeFi, many of these forks became successful short-term due to new investors not understanding how the model works. After a few months of the same series of events occurring with these forks as with Goose, even the newer market participants began to realize that the model mirrors that of a Ponzi scheme.

Bonds and Treasury management

Later in 2021, we saw the development of OlympusDAO which led to several ‘OHM forks’ on non-Ethereum blockchains in the following months.

These innovative DeFi protocols aimed to solve problems in the space which were often similar to products we see in traditional finance aka TradFi. While Layered Farming proved to be the trader’s casino, Olympus introduced the concept of bonds and treasury management in DeFi.

Olympus was offering yields in excess of 50,000% compounded APY which after some time the market came to realize was not sustainable due to inflation. The concept is very similar to that which was discovered in the Layered Farming example above. The Olympus model produced a similar outcome but was more complex in nature and thus, delayed the ability of the market to identify that the tokenmomics were ponzinomics!

Algorithmic stable coins

Right now, we are witnessing the collapse of another trend which is the algorithmic stablecoin and the Terra ecosystem. We have seen many iterations of stablecoins over the past year including fully collateralized, partially collateralized (think Iron Finance), and algorithmic which are backed by nothing other than the value of a network.

What exactly happened in the case of Terra is still a bit unclear, but overall, it appears that the algorithmic stablecoin model Terra had in place was exploited by market participants manipulating multiple factors to collapse the entire ecosystem which included the UST and LUNA tokens.

This is leading to increased concern over the confidence investors have in algorithmic stablecoins and could potentially result in the end of these types of stablecoins altogether. This is a great example of a trend unfolding in front of our eyes. Over the next few weeks, it will become clearer how the market views algorithmic stablecoins going forward and whether or not they have a place in the DeFi ecosystem. After an event like this, it is common to see the trend evaporate due to a lack of trust, or evolve into something which works better due to technological/structural improvements to the existing model.

These examples are the trial-and-error process of finding similar products used in TradFi to solve DeFi problems. Throughout the course of these developments, the systems and rules in place which govern how these protocols operate became more and more complex. It’s an industry expanding and learning how to grow on its own using battle-tested tactics which succeeded under somewhat similar circumstances.

And it’s not all bad. There are some protocols that seem to be standing the test of time, such as leveraged yield farming.

Leveraged yield farming

Leveraged yield farming (LYF) is a unique product rolled out within the past year, first by Alpha Finance Labs and later by others including Alpaca Finance. The benefit of LYF is taking advantage of cheap borrowing rates to lever up and earn interest in multiples higher from a particular yield farm or staking opportunity. The biggest risk with LYF is liquidation. Liquidation occurs when the value of borrowed position falls below a certain required collateral threshold applied to user collateral posted. Liquidations present a risk in LYF and also in general DeFi lending/borrowing and are often subject to manipulation in order to cause liquidations to occur.

That said, LYF has proven to be resilient throughout this current bear market. Unlike the previously mentioned protocols, continues to provide value assuming that risk is properly managed.

So what makes LYF different from Layered Farming, OHM forks and algostables? The key lies in the underlying value. LYF is primarily available on blue-chip tokens and the returns come directly from trading fees. While some platforms have had adoption incentives, trading fees themselves provide enough of a revenue stream to make LYF worthwhile. This is in contrast to the other models which do not have a true source of income that comes anywhere close to their valuation.

It is very likely that the next bull run in DeFi will be centred around protocols that have proven revenue and LYF figures to play a role in that renaissance.

Where to from here?

As we take a step back and reflect on how these developments impacted the DeFi ecosystem as a whole, particularly the retail user, it is clear that we still have a lot of work to do.

On the positive side, these developments have led to cutting edge protocols which mutated from the original models put forth. For example, we now see protocols using the treasury management model observed through OHM forks to create a managed investment vehicle. This is allowing small investors to gain access to big-money opportunities that were traditionally only available to the uber-wealthy. Much of this is due to the lack of regulation, but with a free flow of global capital across DeFi, the idea of democratizing big money opportunity investing fits the ethos of DeFi quite nicely.

On the negative side, DeFi is still unstable and high-risk as new and innovative protocols don’t always work out. It is also clear that user experience continues to be a challenge across the board in DeFi. This is especially true for these innovative protocols that implement new systems which take time for users to understand and are often manual in nature when it comes to managing their investments.

Most new protocols and trading opportunities enter the market without well-developed user interfaces which makes investment management manual and cumbersome. For example, a protocol such as Tomb Finance and the related forks across multiple blockchains requires users to harvest rewards manually, compound manually, and convert reward tokens manually.

We can’t solve the stability issue for DeFi, this will come in time. But we can solve the manual management issue to free up time for DeFi investors to research, learn and strategise instead of spending so much time executing transactions manually. Trends will come and go, it’s how we manage and respond to them as investors that will determine our place in the game.

Arturo, the no-code super tool is designed to tackle all investor needs and be customized to fit such needs at the drop of a dime. Arturo will revolutionize the way DeFi operates by creating a place where investors have a tool which works for them and saves them countless hours per day. Innovative DeFi products such as those described above present a strong need for a tool such as Arturo to enhance user experience and take DeFi to the next level.

Stay tuned for updates on Arturo’s development and launch plans through our Twitter @ArturoFinance.