Curve conspiracy sequel, Yield Basis stablecoin yield new paradigm

Author: Zuo Ye, Crooked Neck Mountain

After the collapse of Luna-UST, stablecoins have completely bid farewell to the era of stability. The CDP mechanism (DAI, GHO, crvUSD) once became the hope of the entire village, but ultimately, what broke through the encirclement of USDT/USDC was Ethena and the yield anchoring paradigm it represents, which not only avoids the inefficiency problems caused by over-collateralization but also leverages native yield characteristics to unlock the DeFi market.

In contrast, the Curve system, after relying on stablecoin trading to open up the DEX market, gradually ventured into the lending market Llama Lend and the stablecoin market crvUSD. However, under the brilliance of the Aave system, the issuance of crvUSD has long hovered around 100 million dollars, essentially only serving as a backdrop.

However, after the flywheel of Ethena/Aave/Pendle was launched, Curve's new project Yield Basis also wants to take a share of the stablecoin market, starting with cyclical leveraged loans, but this time through trading, hoping to eliminate the chronic issue of AMM DEX - Impermanent Loss (IL).

Unilateralism eliminates gratuitous losses

Curve's latest masterpiece, now your BTC is mine, hold onto your YB for guard duty.

Yield Basis represents a renaissance, where you can see liquidity mining, pre-mining, Curve War, staking, veToken, LP Token, and circular loans within a project. It can be said to encompass the development of DeFi in its entirety.

The founder of Curve, Michael Egorov, is an early beneficiary of DEX development. He made improvements on Uniswap's classic AMM algorithm x*y=k, successively launching the stableswap and cryptoswap algorithms to support more "stablecoin trading" and a more efficient universal algorithm.

The large-scale trading of stablecoins has established Curve as a key player in the on-chain "borrowing" market for early stablecoins such as USDC/USDT/DAI. Curve has also become the most important on-chain infrastructure for stablecoins in the pre-Pendle era, and even the collapse of UST can be directly traced back to the moment of Curve's liquidity withdrawal.

In terms of token economics, the veToken model and the subsequent "bribery" mechanism of Convex have made veCRV a truly functional asset. However, after a four-year lock-up period, the majority of $CRV holders suffer in silence, which is hard to express to outsiders.

After the rise of Pendle and Ethena, the market position of the Curve system is at risk. The core issue for USDe is that the hedging comes from CEX contracts, and the use of sUSDe for yield capture makes the importance of stablecoin trading itself less significant.

The counterattack of the Curve system first comes from Resupply, which will be launched in 2024 in conjunction with the two ancient giants Convex and Yearn Fi. Then, as expected, there was a major collapse, marking the first failed attempt of the Curve system.

Resupply is in trouble. Although it is not an official project of Curve, it is like breaking a bone and connecting the tendons. If Curve does not fight back, it will be very difficult to buy a ticket to the future in the new era of stablecoins.

When experts take action, they truly stand out. Yield Basis does not target stablecoins or the lending market, but rather the impermanent loss issue in AMM DEXs. However, it should be stated first: the real purpose of Yield Basis has never been to eliminate impermanent loss, but to promote a surge in the issuance of crvUSD.

However, we start from the mechanism of the occurrence of impermanent loss, where LPs (liquidity providers) replace traditional market makers. Stimulated by the sharing of transaction fees, they provide "bilateral liquidity" for trading pairs on AMM DEX. For example, in the BTC/crvUSD trading pair, LPs need to provide 1 BTC and 1 crvUSD (assuming 1 BTC = 1 USD), at which point the total value of the LP is 2 USD.

Correspondingly, the price p of 1 BTC can also be expressed as y/x, and we agree that p = y/x. At this time, if the price of BTC changes, for example, rises by 100% to 2 dollars, an arbitrage situation will occur:

A pool: Arbitrageurs will use 1 dollar to purchase 1 BTC, at which point the LP needs to sell BTC to obtain 2 dollars.

Pool B: Sell within Pool B when the value reaches 2 dollars, the arbitrageur nets 2-1=1 dollar.

The profit of arbitrageurs is essentially the loss of the A pool LP. To quantify this loss, we can first calculate the value of LP after the arbitrage occurs: LP(p) = 2√p (where x and y are both represented by p). However, if the LP simply holds 1 BTC and 1 crvUSD, it is considered to have no loss, which can be represented as LP~hold~(p) = p + 1.

According to the inequality, when p > 0 and not equal to 1, it can always be obtained that 2√p < p + 1, and the income of arbitrageurs essentially comes from the losses of LPs. Therefore, under the stimulation of economic benefits, LPs tend to withdraw liquidity and hold cryptocurrencies, while AMM protocols must retain LPs through higher fee-sharing and token incentives. This is also the fundamental reason why CEX can maintain its advantage over DEX in the spot market.

Image description: Uncompensated loss

Image source: @yieldbasis

From the perspective of the entire blockchain economic system, impermanent loss can be seen as a kind of "expectation". Once the LP chooses to provide liquidity, they can no longer demand the returns from their holdings. Therefore, impermanent loss is essentially more of an "accounting" loss rather than a real economic loss. Compared to holding BTC, LPs can also earn transaction fees.

Yield Basis does not see it this way. They do not aim to eliminate LP's expected losses by increasing liquidity or raising the transaction fee ratio, but rather focus on "market-making efficiency." As mentioned earlier, compared to holding p+1, LP's 2√p can never outperform it. However, from the perspective of the return ratio on an initial investment of 1 dollar, with an initial investment of 2 dollars and a current price of 2√p dollars, the "yield" for each dollar is 2√p/2 = √p. Do you still remember that p is the price of 1 BTC? So if you simply hold, then p is your asset return rate.

Assuming an initial investment of 2 dollars, the LP yield changes as follows after a 100% increase:

2√2 USD (Arbitrageurs will take the difference)

√2 USD

Yield Basis approaches from the perspective of asset yield, allowing √p to become p, which ensures LP fees are retained while maintaining holding income. This is quite simple, just √p². From a financial perspective, it requires a fixed 2x leverage; too high or too low will lead to the collapse of the economic system.

Image description: Comparison of LP Value Scaling between p and √p

Image source: @zuoyeweb3

This means allowing 1 BTC to achieve double its market-making efficiency, naturally without corresponding crvUSD participating in fee-sharing, leaving BTC only with its own yield comparison, which transforms from √p to p itself.

Whether you believe it or not, anyway, in February, Yield Basis officially announced a financing of 5 million dollars, which shows that some VCs believed in it.

However! LPs must add liquidity to the corresponding BTC/crvUSD trading pair; if the pool only contains BTC, it cannot operate. Llama Lend and crvUSD are responding accordingly by launching a dual lending mechanism:

1. The user deposits (cbBTC/tBTC/wBTC) 500 BTC, and YB (Yield Basis) borrows an equivalent of 500 crvUSD using 500 BTC. Note that this is at equivalent value, utilizing the flash loan mechanism, not a complete CDP (which is originally about 200% collateralization rate).

2. YB will deposit 500 BTC/500 crvUSD into the corresponding Curve BTC/crvUSD trading pool and mint it as $ybBTC representative shares.

3. YB uses LP shares worth 1000U as collateral to borrow 500 crvUSD through the CDP mechanism at Llama Lend and repays the initial equivalent loan.

4. The user receives ybBTC representing 1000U, Llama Lend obtains 1000U of collateral and eliminates the first equivalent loan, and the Curve pool receives 500BTC/500 crvUSD liquidity.

Image description: YB operation process

Image source: @yieldbasis

In the end, 500 BTC "eliminated" its own loan and also obtained 1000 U in LP shares, achieving a 2x leverage effect. However, please note that the equivalent loan was borrowed by YB, acting as the most critical intermediary. Essentially, YB is taking on the remaining 500U loan share from Llama Lend, so YB also has to share the Curve transaction fees.

If users believe that 500U of BTC can generate a profit of 1000U in transaction fees, then they are correct. However, thinking that it all goes to themselves is a bit impolite. Simply put, it’s not just a 50-50 split; YB’s thoughtful intent is a pixel-level tribute to Curve.

Let's calculate the original profit:

Among them, 2x Fee means that a user investing 500U equivalent in BTC can generate a profit of 1000 U in fees. Borrow_APR represents the rate of Llama_Lend, and Rebalance_Fee represents the cost for arbitrageurs to maintain the 2x leverage, which essentially still needs to be paid by LP.

There is now a good news and a bad news:

• Good news: The lending income from Llama Lend is fully returned to the Curve pool, effectively passively increasing LP yields.

• Bad news: The fees for the Curve pool are fixed at 50% for the pool itself, which means both LP and YB have to share the remaining 50% of the fees.

However, the fees allocated to veYB are dynamic and are actually dynamically divided among ybBTC and veYB holders. The veYB has a fixed minimum guarantee of 10% share, which means that even if no one stakes ybBTC, they can only receive 45% of the original total revenue, while veYB, which is the YB itself, can receive 5% of the total revenue.

A magical result occurs, even if users do not stake ybBTC for YB, they can only receive 45% of the transaction fee. If they choose to stake ybBTC, they will receive YB Token but will have to give up the transaction fee. If they want both, they can continue to stake YB to exchange for veYB, which will allow them to earn the transaction fee.

Image description: ybBTC and veYB revenue sharing

Image source: @yieldbasis

Uncompensated losses never disappear; they only get transferred.

You might think that using 500U worth of BTC could generate a market-making effect of 1000U, but YB didn't say that all market-making profits go to you. Moreover, after you stake into veYB, you need to unstake twice, from veYB to YB and from ybBTC to wBTC, to reclaim your original funds and profits.

However, if you want to obtain full voting rights for veYB, which means the bribery mechanism, then congratulations, you have a four-year lock-up period. Otherwise, the voting rights and yields will gradually decrease with the staking period. Whether the earnings from the four-year lock-up and giving up BTC liquidity to obtain YB are worth it ultimately depends on personal consideration.

As mentioned earlier, an impermanent loss is an accounting loss that only becomes a realized loss if liquidity is withdrawn. Now, YB's elimination plan is essentially an "accounting income" that provides you with a floating profit anchored to your holdings, while nurturing its own economic system.

You want to leverage 500U to generate 1000U in fee income, and YB wants to "lock" your BTC and sell its own YB to you.

Multi-party negotiation embraces the growth flywheel

In the era of great returns, come if you have a dream.

Based on Curve, using crvUSD, although it will empower $CRV, it also introduces the Yield Basis protocol and the token $YB. Will YB retain its value and appreciate after four years? I'm afraid...

Outside the complex economic mechanisms of Yield Basis, the focus is on the market expansion path of crvUSD.

Llama Lend is essentially part of Curve, but the founder of Curve surprisingly proposed to issue an additional 60 million dollars worth of crvUSD to supply initial liquidity for YB, which is quite bold.

Image description: YB not moving, crvUSD issued first

Image source: @newmichwill

YB will provide benefits to Curve and $veCRV holders as planned, but the core issue is the pricing and appreciation of YB Token. Ultimately, crvUSD is U, so is YB really an appreciating asset?

Let alone the occurrence of the ReSupply event again, it will affect the Curve itself.

Therefore, this article does not analyze the token linkage and profit-sharing plan between YB and Curve. $CRV is a cautionary tale not far in the past, and $YB is destined to be worthless; it is meaningless to waste bytes.

However, in the defense of his own issuance, one can glimpse Michael's ingenious ideas. The BTC deposited by users will "generate" an equivalent amount of crvUSD. The benefit is that it increases the supply of crvUSD, and each crvUSD will be put into the pool to earn transaction fees, which is a real trading scenario.

But essentially, this part of the crvUSD reserves is equivalent rather than excessive. If the reserve ratio cannot be increased, then increasing the profit effect of crvUSD is also a way. Do you remember the relative yield of funds?

According to Michael's vision, the borrowed crvUSD will efficiently collaborate with the existing trading pools, such as wBTC/crvUSD linking with crvUSD/USDC, promoting the trading volume of the former and also increasing the trading volume of the latter.

The transaction fee for the crvUSD/USDC trading pair will be split 50% to $veCRV holders, and the remaining 50% will be distributed to LP.

It can be said that this is a very dangerous assumption. The crvUSD lent by Llama Lend to YB mentioned earlier is specifically for single pool usage, but pools like crvUSD/USDC are unrestricted. At this point, the crvUSD essentially lacks sufficient reserves; once the value of the coin fluctuates, it can be easily exploited by arbitrageurs, leading to the familiar death spiral. If crvUSD encounters problems, it will affect both YB and Llama Lend, ultimately impacting the entire Curve ecosystem.

Be sure to note that crvUSD and YB are tied together. 50% of the newly issued liquidity must enter the YB ecosystem. The crvUSD used by YB is issued in isolation, but its usage is not isolated. This is the biggest potential risk point.

Image Description: Curve Profit Sharing Plan

Image source: @newmichwill

The plan proposed by Michael is to bribe the stablecoin pool with 25% of the issuance of YB Token to maintain depth, which is already close to being a joke. Asset security: BTC > crvUSD > CRV > YB. When a crisis comes, if YB can't even protect itself, what can it protect?

YB's own issuance is a product of the fee-sharing from the crvUSD/BTC trading pair. Remember, Luna-UST was similar; UST is the equivalent minted from the amount of Luna burned, and the two rely on each other. The same goes for YB Token<>crvUSD.

It can be even more similar. According to Michael's calculations, based on the trading volume and price performance of BTC/USD over the past six years, he calculated that a 20% APR can be guaranteed, and a 10% yield can be achieved even in a bear market. The peak during the bull market in 2021 could reach 60%. If we empower crvUSD and scrvUSD a little bit, surpassing USDe and sUSDe is not a dream.

Due to the large amount of data, I did not have backtest data to verify its computing ability, but don't forget that UST also guaranteed a 20% yield. The model of Anchor + Abracadabra has also been running for quite a long time. Could it be that the combination of YB + Curve + crvUSD would be any different?

At least, UST crazily bought BTC as reserves before the collapse, while YB directly used BTC for leveraged reserves, which can be considered a significant advancement.

Forgetting is equivalent to betrayal.

Starting from Ethena, on-chain projects begin to seek real returns, rather than just looking at market dreams.

Ethena leverages CEX to hedge ETH for profit capture, distributes profits through sUSDe, and uses the $ENA treasury strategy to maintain trust among large holders and institutions, ensuring the stability of the USDe issuance of ten billion dollars through various maneuvers.

YB wants to seek real trading profits, which is not a problem in itself, but arbitrage and lending are not the same. Trading is more instantaneous, and each crvUSD is a joint liability of YB and Curve. Moreover, the collateral itself is also borrowed from users, and the own funds are close to zero.

The current issuance of crvUSD is low, and maintaining the growth flywheel and a 20% return rate in the early stages is not difficult. However, once the scale expands, the increase in YB prices, fluctuations in BTC prices, and a decrease in crvUSD's value capture ability will lead to significant selling pressure.

The US dollar is an unpegged currency, and crvUSD is about to be as well.

However, the nested risks of DeFi have already been priced into the overall systemic risk on the chain, so the risk that is a risk to everyone is not a risk; instead, those who do not participate will passively share the losses from the collapse.

Conclusion

The world will give a person the opportunity to shine, and being able to seize it is what makes a hero.

The Yield Basis of traditional finance is the yield of US Treasury bonds, will the Yield Basis on-chain be BTC/crvUSD?

The logic of YB can be established when on-chain transactions are sufficiently large, especially since Curve itself has a huge trading volume. In this case, eliminating impermanent loss makes sense, and we can draw an analogy:

• The power generation equals the electricity consumption, and there is no static "electricity"; it is generated and used immediately.

• Trading volume equals market capitalization, every token is in circulation, can be bought and sold immediately.

Only through continuous and sufficient trading can the price of BTC be discovered, and the value logic of crvUSD can be closed loop, generating more from BTC lending and profiting from BTC trading. I have confidence in the long-term rise of BTC.

BTC is the CMB (Cosmic Microwave Background) of the crypto microcosm. Since the financial explosion in 2008, as long as humanity does not wish to restart the world order through revolution or nuclear war, the overall trend of BTC will rise, not because of a greater consensus on the value of BTC, but due to confidence in the inflation of the USD and all fiat currencies.

However, I have moderate trust in the technical capability of the Curve team, and I hold deep skepticism about their ethical standards after ReSupply. However, it is also difficult for other teams to dare to try in this direction, and it is helpless that money flows away, resulting in a loss for those who are destined.

UST frantically purchased BTC on the brink of collapse, converting reserves from USDe to USDC during fluctuations, and Sky is even more crazily embracing government bonds. This time, good luck to Yield Basis.