Tokenomic Assessment

Stablecoin Farming in a Low Yield - High Risk DeFi Environment

With a growing number of high profile hacks and rugpulls in the space, the average yield farmer returns have gone negative for the first time since Synthetix.io, compound.finance & yearn.finance first kicked off the yield farming industry last year.

This raises the question whether or not the risk adjusted returns are sufficient for professional investors to achieve an 'attractive risk-free return'. Once you account for all the costs and counterparty risks associated with acquiring and extracting yield in the space:

• Increased drawdown risks associated with Hacks, Rugpulls/inside jobs and risk of Impermanent loss.
• Aquisition and distribution costs such as gas fees, exchange fees, slippage costs and bridging assets across chains can result in significant fee DeFicits and spreads when entering and exiting liquidity pools in the space.
• Counterparty risk do not scale in a linear fashion, they compound exponentially, together with the risk of 'capital loss'.
• Fake APYs are used as bait to lure inexperienced yield farmers to deploy their capital in unsafe and poorly designed protocols.
• Oversaturation of rewards and/or unsustainable issuance models lead to unfavourable outcomes for all network stakeholders (except vampire LPs). Current popular models are weighted in the favour of 'Liquidity Providers' (LPs) at the expense of the value proposition of the 'Native Governance Token (NGT)', and by extension the NGT holder, resulting in a race amongst LPs to dump the NGT of the protocol in question.

Tokenomic analysis - Convexfinance.com & Curve.fi stablecoin farming

Given that 'Total Value Locked (TVL)' within a protocol is a function of the aggregate amount of alpha/yield/emissions that are emitted by a protocol, the yield farmer needs to understand:

1. The dynamics of the underlying alpha source (CRV), in order to analyse and understand Convex' value proposition.

2. How changes in CRV and CVX emissions rate, as well as changes in Curve DEX fees and changes in dividend payments may impact the value proposition of CRV and CVX in the short-term, medium-term, and long-term.

CRV price performance history

CVX price performance history

Key observations:

• CVX is a higher beta (risk reward) play off CRV and therefore is liable to extreme price volatility and drawdown risk!

• Yearn yBOOST vs Convexfinance CVX Currently CVX is the best yield farming tool available for CRV LPs to maximize their curve.fi yields. Convex is growing their market share of veCRV (within the Curve DAO) at the expense of Yearn's yBoost marketshare. As a result, Yearn will not be able to compete with Convex in the long run.

• Yield longevity and dependency With CVX rewards set to fall drastically in the short to medium-term, LPs need to be aware that CVX APYs are a large component of the yield associated with farming on convexfinance.com.

• DUSD has de-pegged from the USD a number of times during its short life cycle, putting liquidity pool deposits at risk of significant drawdowns.

  

• BUSD v2 pool consist of four stablecoins (DAI, USDC, BUSD, USDT). Any pool that consists of two or more tokens is at a high risk of impermanent loss or other counterparty risks. As a pool is only as safe as the weakest asset within the pool. This makes pools with numerous assets only attractive/worthwhile, if farmers/investors are getting a high APY in return for the risk they are taking.

• USDT is backed by a basket of non-liquid assets, making it susceptible to a 'crypto bank run', which may result in USDT falling below its $1 peg.

• CRV & CVX emissions schedule

  

• The CRV growth fallacy and unsustainable growth model, results in the continuing dilution of veCRV/CVXCRV as Curve DEX trading fees are split up between a greater amount of staked veCRV in circulation.

• The CRV and CVX APY Cliff is approaching ever closer. The ability of the Curve.fi/Convexfinance.com protocol to acquire and retain liquidity is highly correlated with the emissions rate. With future emissions set to decline at a fast pace, yields on both Curve and Convex are set to decline quickly over the short-term to medium-term.

CRV/CVX/CXVCRV/veCRV Conclusion

"Why do AAVE, Compound and Curve have the largest TVL? ....because they provide the largest and best sources of risk adjusted yield to Liquidity Providers in the space. LPs swarm to Alpha wells like flies to shit. In a world where LP can move capital freely within the blockchain space, capital will always be attracted to alpha, wherever is it to be found. LPs are not loyal. LPs that face dwindling yield farming reward incentives, and run out of their native governance tokens treasuries, diminishing their ability to sustain and develop long term relationships with LPs and users within their network."

CRV and CVX has a short period of time before the APY cliff begins. This occurs when most of yield farming rewards are depleted. The APY cliff can only be addressed and resolved by the implementation of a new sustainable business/tokenomic model.

The yield market is unpredictable and can change at a moment's notice. It is ill-advised to become over-reliant on one 'alpha source' and/or platform to generate stable yields within DeFi. Instead, yield farmers should diversify their counterparty protocol exposure and yield dependency amongst several protocols and chains to maximize their risk adjusted returns over the long-term.

CVX and CRV rewards are subject to diminishing risk adjusted returns over time, as their business models still remain unproven and highly dependent on a dwindling/reducing supply of free CRV/CVX stimulus. Until the curve.fi protocol transitions to a more sustainable model (Uniswap model) that puts the emphasis on third party projects to incentivize liquidity on Curve pools. Consequently, CRV and by extension CVX value proposition is liable to the yield farming 'growth fallacy'.

Avoid using stablecoin strategies that have multiple counterparties as risk scales exponentially in DeFi, not in a linear fashion. It seems wiser to avoid stablecoins that are backed by non-liquid assets (Tether) and or algorithmic (Iron) stablecoins. As a result, fully-collateralized or over-collateralized stablecoins, offer much better risk adjusted returns, given their ability to sustain their peg during times of extreme price volatility/volume in the market (USDC, sUSD, DAI).

DUSD is at risk of de-pegging from the US dollar, resulting in a high risk of IL

Avoid liquidity pools comprising of 3/4 or more stablecoins within them, especially non-liquid or partial backed stablecoins.

Use Tether Debt/toxic stablecoin debt to hedge against existing DeFi stablecoin exposure. If Tether falls below its peg resulting in IL, so does yield farmer debt.

Curve and Convex are still reliant on an unsustainable business model to bootstrap liquidity. What determines the viability and value proposition of CRV, and by extension CVX in the long-run, is whether or not Curve.fi will be able to transition away from their current unsustainable CRV issuance model. Where the emphasis is put on the other parties (rather than CRV itself) to provide the financial incentive to attract and retain liquidity in the future (i.e. Uniswaps model).

The CRV Team allocation of CRV and CVX tokens will put a lot of downwards pressure on the price of both tokens in the future. As the price of CRV and CXV starts to rise, it becomes highly likely that the team will dump their vested rewards to cash out some of their equity within the protocol. This results in limited upside appreciation potential in the CRV and CVX prices (when taking the current inflation rate and token distribution/centralization risk of both tokens into account).

It is highly likely that the coming APY Cliff will cause a death spiral in CRV and CVX token prices and protocol TVL should the Curve team fail to transition to a more sustainable business model in time.

Convex' growing share of votes within the Curve DAO will result in a growing influence in how CRV rewards are allocated amongst the CRV pools. As Convex' share of veCRV grows, their ability to change the distribution weightings of CRV rewards increase, resulting in more CRV rewards being allocated to the CRV pools which Convex has a greater share within, thereby further undermining the governance function of the Curve DAO.

Convex' growing share of 'CRV boosts' are diluting the returns and yields of smaller single LPs. This trend will likely continue and will ultimately end up with smaller LPs being forced to route their liquidity through convex, as they will have a unattainable advantage over other Curve LPs. This phenomenon may undermine CRV value proposition and may result in bearish price action for CRV.

To maximize the risk adjusted returns and limit the drawdown risks of DUSD liquidity providers, we recommend that our clients wait for a more opportune moment to acquire DUSD stablecoins/liquidity (i.e. when DUSD falls below its $1 peg) given the past performance and likelihood that DUSD will fall below its 1 to 1 peg during times of strong market volatility.

CVXCRV is likely to lose it's 1 to 1 peg with CRV in the long-run, as the circulating supply of veCRV/CVXCRV increases relative to the trading fees and volume generated by the Curve DEX (that are distributed to CVXCRV/veCRV token holders).

CRV and CVX Yield farming action plan:****

Pure Vampire strategy vs Werewolf strategy vs Angel strategy

As an LP, you have two choices when providing liquidity to protocols in the space, you either:

• support the network by accumulating and re-staking CRV and CVX tokens, thereby propping up the secondary market of both tokens. An angel strategy requires the LP to expose themselves to the price volatility of the tokens that they are accumulating.
• drain the network when the speculative premium attached to CVX and CRV looks overvalued, thereby locking in the APY before other farmers start to crash the price/yields by adopting a 'vampire strategy'.

Vampire strategy when farming CRV/CVXCRV rewards on Convexfinance.com

We would strongly advise our clients to adopt a 'Vampire strategy' when farming CRV tokens. This entails dumping CRV tokens onto the secondary market as fast as possible in exchange for more pristine forms of DeFi collateral (such as interest bearing USD, ETH & BTC) that will very likely continue to outperform CRV/CVXCRV in the long run.

Hybrid Werewolf & Vampire strategy when farming CVX rewards on Convexfinance.com

For CVX rewards, we strongly advise our clients against speculating on the price appreciation of CVX, with the aim of ultimately dumping the token on the secondary market. Consequently, the aim should be to accumulate CVX:

• when the price of CVX is low
• when the overall market is likely to rebound in the coming days or weeks.

With the intention of dumping the token onto the secondary market when the price rises again to maximize yields and returns. Conversely, if the price of the CVX tokens look bearish, we recommend that our clients adopt a 'pure vampire strategy' to avoid unnecessarily exposing themselves to the price volatility and drawdown risks associated with holding and speculating on CVX.

Alternate stablecoin farming strategies There are plenty of alternative stablecoin pools/farms that offer much better risk adjusted rewards (lower counterparty risk and higher rewards) when farming with stablecoins in Defi:

Ethereum Stablecoin Farming

Kyber stablecoin pools

https://dmm.exchange/ 30 day vesting period

Polygon Stablecoin Farming

DYN Polygon stablecoin farms vested stablecoin strategy

Iron Finance stablecoin pool

Conclusion

CRV and CVX liquidity should be part of a well-diversified yield farmers portfolio. However, we would strongly advise our clients against limiting themselves to just Curve.fi and Convexfinance.com:

• As there are many better risk adjusted protocols in the space
• By diversifying your portfolio amongst several different safe protocols you can reduce your total aggregate drawdown risk, whilst achieving better risk adjusted returns in the long run.

Further recommended reading material on Curve.fi and Convexfinance.com https://curve.substack.com/p/june-1-2021-the-curve-wars-