Aave Credit Delegation and INDEX Liquidity Provisioning

To increase $INDEX liquidity the INDEX Coop wants to know how acquiring ETH using Aave credit delegation may help.

Here are my thoughts and findings. This is not investment advice and input and feedback are definitely needed. I hope this information can help ideas and conversation around the new area of Ethereum-based credit delegation.

Borrowing a large amount of ETH and matching it with the Coop’s $INDEX reserves could enable a large liquidity pool and avoid the negative effects of selling $INDEX to set up a pool. Greater $INDEX liquidity should provide better availability and lower slippage for larger investors and traders.

Here is an overview of Aave credit delegation, an example, some of the risks involved, and possible next steps.

Aave Credit Delegation overview

Aave credit delegation enables borrowing without collateralization. A depositor can permit borrowing against their invested assets by making an agreement with a borrower and using Aave credit delegation.

An example usage scenario might be:

A large holder of ETH may want to invest their ETH in a savings contract but the savings options are not great because returns for depositing ETH are currently (Jan 03, 2021):

Aave v2: 0.12% APY
Compound: 0.06% APY

Better returns can be found on Aave by delegating credit to a trusted smart contract, person, or organisation – and the borrower does not need to provide collateral.

Delegated credit returns come from the negotiated terms of the loan. It’s worth noting that credit can be taken in a different asset to that which was deposited in the credit vault.

A credit delegation arrangement may benefit the credit provider (delegator) with extra yield on their Aave deposit and benefit INDEX Coop by providing quick access to ETH for a liquidity pool without the need to sell $INDEX reserves.

Getting delegated credit

A delegator must first deposit the assets they want to invest into Aave to get aTokens.

For example, they receive 150 aWETH in exchange for depositing 150 ETH.

The delegator then needs to place the aTokens into the Aave Credit Delegation protocol and choose a variable or stable borrowing rate model.

Continuing the example, the delegator places the 150 aWETH into a Credit Delegation Vault and chooses the variable rate model (currently 1.26% APR (for the borrower)).

The delegator and a borrower should then reach an agreement before opening a delegated credit line from the vault. The agreement can be an off-chain legal document and facilitated through OpenLaw such as created for DeversiFi.

In the example, the depositor and INDEX Coop agree on repayment in 1 year and an APR of 1.5%. (a rate that may be coverable by returns from the INDEX-ETH Uniswap pool)

The borrower then withdraws however much they want up to the limit defined in the agreement and with consideration to the loan-to-value (LTV) requirements.

INDEX Coop chooses to borrow 100 ETH, match it with 16,866 $INDEX from the treasury, and place them in the Uniswap INDEX-ETH pool. This almost doubles the pool size, helping reduce slippage and enabling larger swaps.

Repayments are on the terms of the loan.

At the end of the 1-year term and in accordance with the agreement, INDEX Coop must repay 101.5 ETH to the delegator. To cover this and not sell $INDEX, fees from the pooled assets would need to have generated around 3% APY.

The critical part of making a delegated loan work well is finding a favourable configuration for both the depositor and the borrower.


Covering the repayment terms of the loan is a risk that is difficult to define. It may be necessary to sell $INDEX to cover the loan if the liquidity pool is not providing returns that can cover the repayments. For example, the DPI-ETH pair averaged a 3% APY from fees over the last two days but other pools have lower returns and some much more.

The delegator could remove unused funds from the vault at any time and prevent more withdrawals.

If a borrowed asset is placed in a liquidity pool, there is an impermanent loss risk which may affect returns and loan repayment.

Selling $INDEX to cover a shortfall from pool fees might be considered a poor outcome.

Relying on liquidity pool incentive rewards to help cover repayments would be dependent on the length of the liquidity reward program.

The legal agreement must be adequate.

Next Steps

INDEX Coop needs to find willing credit line providers (depositors).

If the INDEX Coop could find a willing depositor, a sum could be borrowed and used in a liquidity pool to increase $INDEX liquidity. It is necessary to ensure that the repayment terms are manageable with the returns from the liquidity pool deposit, otherwise the setup will cost the INDEX Coop.

If possible, a simulation of a loan might provide insight into whether taking a delegated credit line is a good idea for INDEX Coop and increasing $INDEX liquidity.

A look at how a loan and pool may have performed over the last 3 months would provide valuable insight.

A target amount for borrowing should be determined. Things to consider:

Minimizing slippage for median swap size demand (Uniswap says median swap size across the platform is $634)

Should INDEX Coop insure the loan, how much is INDEX Coop prepared to pay?

Would using one pool be preferable to many pools and protocols?

How might L2 pool usage change the environment?

How does anyone see Aave credit delegation providing an opportunity for the INDEX Coop?

Sorry for the lack of links, I am new poster and limited.


Thank you for capturing the option for increasing INDEX liquidity. It has certainly been a problem in the early days of the coop as there has been a small market and not alot of volume.

A few things that come to mind:

  • What kind of fixed interest rates are available on ETH. 1.29% sounds good, but I wonder how sustainable it is (obviously we can repay the loan if the rate becomes too unfavorable).
  • I know we have always been unwilling to provide pool 2 incentives, but I wonder if joining the sushiswap pool with INDEX rewards becomes more effective (particularly if our payment encourages Sushi to continue supporting it…)

With Sushi paying 0.07% per day as Sushi rewards:

They are paying ~$1,000 per day for $1.4 M of liquidity.

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Thank you @overanalyser. Credit delegation is a tricky concept that pretty much left me with more questions than answers!

Yes, the ETH APR mentioned in the post is the variable borrowing rate. The fixed APR is 4.6% today - and it can change if utilisation rates go beyond thresholds.

With regards to Sushiswap, the returns including the rewards look good and could create a far more attractive offer for a delegator. I have two thoughts that might not be popular but which I’ll say for the sake of discussion:

Sushiswap might be viewed negatively in parts of the community in relation to its vampire act. Is this important with regards to INDEX’s image? I see that things might be changing quickly.

Second, how tolerant should we be of any impact on INDEX’s future on Uniswap?

Definitely, the loan can be more attractive to the delegator if we have rewards helping.

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I think that some people have a low opinion on sushi base don it’s history, but I think it’s certainly changed singe the migration and rug pull.

Personally, I think it’s a strong competitor and is certainly innovating. I’ve recently started farming, buying and staking Sushi (so I’m biased).

I certainly don’t see a problem with the coop being linked to Sushi going forward.

I think v3 Uniswap will be very interesting when it launches.

At add to unpopular opinions, there could be a number of reasons for favouring Uniswap:

  • Preference for the incumbent - Uniswap
  • First mover advantage - Uniswap
  • A bias towards protocols based in the USA from many DeFi users based in the USA “Not invented here” - Uniswap.

I’m beginning to wonder if the influence of the USA government agencies (SEC etc) is impacting the rate that US based projects innovate / are willing to take risks. (COMP vs AAVE, Uniswap vs Sushi, ??? vs Yearn).

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thanks @mrvls_brkfst for the research.

two quick comments from me:

  • i am a big proponent of utilising the incentives of other protocols to support liquidity. from that perspective, it makes sense to explore both Sushi and Balancer for INDEX/ETH pair. I don’t know if Sushi onsen rewards are here to stay (?) and Balancer has tiers capping potential BAL rewards (we can push for increasing INDEX cap, etc. - just takes some time and work);
  • i believe we should be diversifying the Treasury. Selling some INDEX for ETH and providing liquidity makes a lot of sense to me. If INDEX and ETH prices diverge, we are either buying back INDEX or accruing more ETH, both of which are positive imho. Introducing a small INDEX incentive on top of Sushi or Balancer (per @overanalyser suggestion) should be enough to generate plenty of INDEX liquidity.

Re Aave credit delegation:

  • if using ETH to provide liquidity, i think the impermanent loss is a major risk factor here. the potential downside is significant and I can’t quite see the upside.
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Here’s an interesting article regarding Pool 2 liquidity: https://andrecronje.medium.com/crypto-economics-perpetual-liquidity-and-il-offsets-197558347a53

I don’t quite get it though, so if someone does, please post an explanation!

Good points @overanalyser and that’s a great twitter post. Things have changed and sentiment has moved on! Interesting about the impacts of regional governance - surely there will be impacts but I hope the community remains global and cooperative, and in that way finds the best route to success.

Thanks @verto0912 Impermanent loss could be a problem and would have to be managed. I like the idea of other protocols and their incentives, seems in line with the lego theme of the space too. As for diversifying the treasury, that’s something worth thinking about. I saw that we might encourage others to diversify their holdings, so it seems good for INDEX too.

@puniaviision That’s cool! For the devs, but I like the attitude and idea :slight_smile: