Michael Egorov: Yield Basis - Bringing Real Yield to Bitcoin

Jose and Jan Lieberman engage in a discussion with Mike Allegroff, co-founder of Curve, about YieldBasis, a product aimed at eliminating impermanent loss in DeFi. Allegroff explains that YieldBasis leverages Curve CryptoPools to enable single-sided liquidity provision, transforming it into yield-bearing crypto. He addresses the challenges new users face, particularly with impermanent loss, using examples of WBTC and USDT deposits in protocols like Curve and Uniswap, where price fluctuations can lead to underperformance compared to simply holding assets.

YieldBasis seeks to allow liquidity providers to maintain upside potential while benefiting from liquidity used for trading. Allegroff discusses how Curve Pools exhibit impermanent loss similar to Uniswap 2, with pricing dynamics contributing to this issue. The solution involves creating a position that squares the price through compounding leverage, which alters price dynamics more rapidly than the original asset. This compounding leverage mechanism borrows against liquidity to buy more liquidity, maintaining a loan-to-value (LTV) ratio of 50%, auto-compounding by deleveraging when prices fall and leveraging when they rise.

He emphasizes the advantages of leveraging Curve Crypto Pools, which utilize concentrated liquidity for better earnings while managing impermanent loss. A mechanism allows users to maintain their Bitcoin quantity while being exposed to its price, enabling liquidity provision without selling Bitcoin as its price increases. Allegroff explains that this borrowing mechanism is managed by an automated market maker, facilitating swaps between LP tokens and debt.

The discussion also covers simulation methodologies that have evolved to ensure profitable arbitrage opportunities, noting that minimal price fluctuations relative to pool fees can impact trading volume and profit. The necessity of continuously adjusting trading parameters based on historical data to enhance strategies is highlighted, with returns on Bitcoin varying between 10% to 20% since early 2023. The yield and fees are crucial for liquidity providers, as they are net of borrowing costs and losses from managing exposure.

Allegroff discusses the mechanism for sourcing borrowing capital, particularly through CurveUSD allocation and its connection to YB tokens. The strategy involves using YB tokens to purchase volts for liquidity in CurveUSD stablecoin pools, which helps stabilize CurveUSD's price. The admin fee structure is designed to increase as more people stake, ensuring dynamic emissions and fair distribution of real yield. Most users prefer earning tokens over real yield, leading to a situation where liquidity earns fees, but few LPs actually benefit.

Potential users for YieldBasis include DeFi natives, institutional investors, Bitcoin miners, and medium-sized funds, with regulatory considerations being significant for institutions. The product offers unique advantages, such as maintaining asset exposure without selling during price increases. The initial launch is planned on Ethereum, appealing to Bitcoin holders, while exploring other chains, including Bitcoin Layer 2 solutions, is also on the agenda.

The governance interaction between Curve and YieldBasis is significant, as Curve governance sets limits on CurveUSD usage by YieldBasis and votes on crypto pool parameters. The evolution of DeFi is noted, with a shift towards optimizing for growth, resembling traditional business strategies rather than purely decentralized protocols. Allegroff expresses skepticism about the long-term viability of certain platforms despite current bullish sentiments and acknowledges potential regulatory risks.

Challenges in real-world implementation are discussed, particularly the need to translate simulations into practical applications. The addressable market for Bitcoin with yield is influenced by how yield basis affects Bitcoin's volatility, with predictions of yield saturation occurring between $50 billion and $100 billion worth of Bitcoin. The conversation also touches on market absorption and the importance of the lending market for stablecoins in pairing with Bitcoin.

The use of CurveUSD instead of traditional public lending markets is emphasized, with YB tokens proposed as liquidity incentives. The estimated size of Bitcoin's market is around $100 billion, based on liquidity available on exchanges. The yield saturation hypothesis suggests that yields will saturate when liquidity in yield basis matches total liquidity within a small price range. The discussion concludes with an acknowledgment of the innovative use of pendels in DeFi and the impressive growth of projects like Athena and Hyper Liquid, highlighting their respective growth strategies and potential market size.