From Market Demand to Ultimate Design, Analyzing the Issuance of Yield Stablecoins

The logic of the yield stablecoin ( YBS ) is to mimic the banking business model, but it still needs to address many issues such as the source of user returns, distribution methods, and the long-term operation of the project. The collapse of DeFi projects is a common phenomenon in the financial industry, while the failure of traditional banks could trigger systemic risks, requiring regulatory agencies to take swift action.

Era of Excessive Leverage

Seeking profit is the core of product thinking, and the manifestation of financialization is speculation. Huge price differences are the source of arbitrage, while long-term volatility requires hedging risks.

After the introduction of computer technology, the financial industry has gone through three stages in the field of quantitative speculation:

• Portfolio insurance: Diversify investment objects to preserve value, quantify risk levels, and price accordingly;

• Leverage: Gathering sand to form a tower, amplifying small trade profits through borrowing;

• Credit Default Swap: CDS is not inherently evil, but the failure of derivative risk control leads to pure gambling behavior.

In the current financial world, the significant price differences in space have disappeared, and normalization, small-scale transactions, and decentralization have become the norm. On-chain MEV and off-chain centralized exchanges are Web3's imitation of traditional finance.

In terms of time dimension, long-term value preservation is no longer mainstream; leveraging, extremism, and speculation have become the goals. Hedging itself has become the purpose, and long-term risks are viewed as a future that will never come.

In this context, YBS project teams generally face a dilemma: low yields make it difficult to attract funds, while overly high promises inevitably lead to a Ponzi scheme, ultimately collapsing at some point.

Hedging is essentially arbitrage and cannot avoid momentum effects.

Separate YBS from the stablecoin market, there are currently three main branches of stablecoins:

• Dedicated clearing network for institutions, used for cross-border, cross-industry, and cross-entity transactions, aimed at supplementing and replacing existing products like Visa and SWIFT.

• Traditional finance-driven USDT-like products, including dollar-pegged and non-dollar stablecoins, as well as alternative attempts by large financial institutions;

• Competitors of Ethena, such as Resolv, are also a focus of this article.

The market always has a kind of "impulse", rising sharply during bullish periods and continuing to dip at expected bottoms, which is known as momentum. YBS is aptly named, as many projects will compete alongside Ethena, pushing yields to their peak, then the market will clear, leaving the ultimate winner in this track. Hedging will ultimately converge closely with arbitrage, making it difficult to distinguish between the two.

The issuance guide for yield stablecoin projects can be roughly divided into two parts: product mechanism and market expansion. The product mechanism includes four aspects: underlying assets, minting mechanism, sources of yield, and distribution. This is the common formula of the YBS project team, with distinctions only in the ratios and website packaging.

Secondly, the market, in the era of formula homogenization, is essentially handicraft, testing the aesthetic ability of the project party. It can be roughly summarized into four aspects: multi-pool strategy, reward design, market volume, and fuzzy strategy.

We will first approach from the product level. The delta-neutral strategy is mostly an improved version of Ethena.

Product homogenization, US bonds become the mainstream choice

Yield-bearing stablecoins differ from USDT's "historical stability"; YBS requires a strong asset reserve, and a pure credit leverage model is difficult to initiate. Early stablecoin projects could issue stablecoins by "claiming" to have equivalent dollar assets, then pledging them for circulation. However, after the collapse of UST and FTX, this operation has become significantly more challenging.

The YBS project team prefers to adopt a bank credit leverage model: reserves to meet regulatory requirements, part of the liquid funds to handle withdrawals, and the remaining funds for lending to earn interest. This is the fundamental reason why USD/US Treasury has become the mainstream choice for YBS; only USD/US Treasury can flow seamlessly between Web2 and Web3, maximizing the profits of the yield portfolio.

1. Underlying Assets

In terms of underlying asset selection, USD/U.S. Treasury bonds are the mainstream, but directly adopting the fundraising model of MakerDAO/Sky to buy U.S. Treasury bonds still appears rough. The market space lies in helping Web3's YBS projects purchase physical assets, as well as assisting Web2 financial giants in issuing compliant YBS.

Utilizing the form of USD/U.S. Treasury can be roughly divided into four categories:

• US Treasuries/USD cash/USD-related assets • Mainstream on-chain assets and their pegged forms • USDT/USDC as underlying assets • Alternative forms, such as GPU computing power tokenization

The progress of mainstream on-chain assets as YBS reserves has been relatively slow. I believe that mainstream on-chain assets need to gain broader recognition in traditional financial markets in order to be used directly as YBS reserves. This trend can be observed from three perspectives: ETFs, national reserves, and the ( micro ) strategy.

2. Minting Mechanism

The minting of YBS should specifically refer to the "issuance of stablecoins based on underlying assets" as a one-way process, not involving subsequent interest-generating mechanisms, redemptions, or other reverse operations.

By referencing the CDP( collateral debt position) mechanism of lending products, we can incorporate all YBS into this framework, both positive and negative, to accommodate non-fully backed reserve YBS types.

In theory, the YBS of the new era generally adopts a 1:1 fully collateralized model, at least in terms of mechanism design. However, the actual situation is difficult for outsiders to understand, which is also the area that YBSBarker hopes to study in depth.

3. Sources of Income

Based on the underlying assets and the minting mechanism, we consider the sources of yield from two dimensions: the yield generation mechanism and stability, forming a complete process for minting, earning, and redeeming yield stablecoins.

Taking Ethena as an example, the Delta mechanism consists of ETH spot and short positions for hedging, which ensures that USDe is pegged to the US dollar at a 1:1 ratio. The funding rate arbitrage from opening short positions is the source of yield, used to pay the earnings of sUSDe holders.

Ethena also chooses ETH versions with built-in staking rewards such as stETH to enhance yield capture capability. Besides Ethena, other YBS projects mainly focus on expanding yield-generating scenarios and improving asset value stabilization mechanisms.

4. Profit Distribution

There are two distribution mechanisms: the value remains unchanged while the quantity increases, or the value rises while the quantity remains unchanged.

• Value increases, quantity remains the same: sToken price rises gradually, allowing for the exchange of more stablecoins. • Quantity increases, value remains unchanged: sToken increases over time, but remains anchored 1:1 with its own stablecoin.

The YBS product mechanism design faces two major challenges: establishing sufficient reserves and finding stable sources of income. This makes YBS naturally repellent to ordinary entrepreneurs and more suitable for large venture capital focus cultivation or intervention by traditional financial giants.

The contradiction between yield and scale

After completing the basic construction and financing of the project, YBS faces the challenges of attracting users to deposit funds, increasing yield, and expanding scale. However, it seems difficult to achieve both yield and scale.

1. Diversified Yield Pool

The most effective customer acquisition method for YBS is to offer high returns, but as the scale of funds increases, it becomes more difficult to maintain stable high returns. YBS must build its own growth flywheel: providing users with more options for returns, in short, it means seeking opportunities across various chains, protocols, and yield pools.

YBS yields can be analyzed from three perspectives:

• Coin-based: issuance data of stablecoins and sTokens • Pool-based: the usage and interest data of stablecoins and sTokens • Protocol-based: the overall governance structure of stablecoins and sTokens

The diversified yield pool presents three characteristics:

• Pendle and its yield amplification platform have become important infrastructure. • Lending mechanisms such as Aave and Morpho amplify returns • Emerging DeFi protocols are replacing the importance of traditional protocols for YBS.

2. Reward System

The design of the reward system is simple, but its implementation is complex. It is necessary to seek a balance between preventing witch attacks and real customer acquisition. Common forms of rewards include:

• Deposit: The longer the holding time, the more points you earn. • Staking: Earn fewer points • Commission: The more people you refer, the higher the commission. • Specific actions: Interact with associated protocols

3. Market Volume

The success of the YBS project relies on effective marketing, which mainly includes three models:

• User Reach: KOL and media promotion, effects gradually weaken • Off-chain legitimacy: Obtaining endorsements from well-known enterprises or political figures • Celebrity endorsement: For example, Arthur Hayes's support for Ethena

4. Fuzzy Strategy

Financial indicators such as APR and APY have ambiguous spaces, and potential risks may also create credit leverage. Different projects have variations in calculation methods and cycles, and the participation of off-chain assets in yield calculations also adds uncertainty.

Conclusion

The surface of YBS is simple, but in reality, it is complex. The 1:1 USD peg provides security, but it involves complex mechanism design behind it. Savings and lending services aimed at the public often involve social and political considerations. We have analyzed the fundamental aspects of a healthy YBS project from the perspective of the project party, but starting a business is difficult, and whether it can withstand the test of the market remains unknown.