SYI - Stable Yield Index is obsolete and replaced with PAY - Pulse Aggregate Yield

[Matthew_Graham]

Title: Stable Yield Index
Author: Matthew Graham
Created: 25th March 2021

Summary

Stable Yield Index (SYI) - is a diversified index made up of stable productive assets that compounds over time into a single asset price.

There is a minimum level of capital to diversify risk across various DEXs, Lending and Asset Manager platforms, and small accounts are simply priced out. Small accounts are more worried about gas costs, added complexity and the time needed to manage such products. As a result, most small account managers place concentrated bets and hope nothing goes wrong.

SYI a low risk diversified fund money market like product, that offers the unique ability to distribute funds across the DeFi ecosystem without taking on a lot of idiosyncratic risk in search for yield. With UniSwap V3 launch in May 2021, and BarnBridge’s fixed interest sBONDs product on the market, there is the possibility to include both NFTs and ERC-20 in this index.

Motivation

SYI allows all investors to invest in the market the same way money managers do in TradFi. Idiosyncratic risk is diversified away across a fleet of products. In its purest form, a static risk allocation is enhanced by tactical diversification. Meaning various productive assets are grouped together based on their risk and investments are made across risk tranches.

There is certain level of capital required to diversify risk across various DEXs, Lending and Asset Manager platforms, and small accounts are simply priced out. Small accounts are more worried about gas costs, added complexity and the time needed to manage such products. Small accounts place concentrated bets and hope that nothing goes wrong with that particular product. SYI changes this, the cost of purchasing SYI on a secondary market would be less than depositing into a mStable, Yearn or Rari Capital. This product also enables a simple passive hold strategy, which is a dream come tax time. All the interest is compounded and reflected in the token price.

There is further upside - the ability to invest in a product that holds the new V3 Uniswap NFT LP tokens and traditional ERC20 LP token. NFT LP tokens are coming and with that Curve’s moat is starting to eroded. SYI captures these market changes and progressively reallocates capital, this is the tactical element, and the results is to reduce idiosyncratic risk. This is just a right now example of how Index Coop can deliver peak user experience.

Upside - we are now starting to see treasuries across the space diversify away from their native token into more stable assets. Productive stable coins are a big part of this diversification strategy. As TradFi talent comes to DeFi the approach to managing treasury capital will become more like TradFi. We are seeing the early stages of this in-house at Index Coop and other DAOs are already further along. SYI becomes a very easy choice as a pillar of any diversified treasury. SYI enables teams to simplify their treasury and have a specialised resource managing their cash equivalent products for them.

Risk & Diversification

Stable Assets
Initially over collateralised USD themed products only, until the market matures and other products meet the inclusion criteria.

Risk Tranches
An easy way to think of this is all USDC Lender tokens across various lenders, these have similar risk profiles. Currently, DAI-USDC LP tokens on DEX are comparable assets with similar risk profiles. There are others examples but this is just a flavour.

Allocation Methodology

This visual shows a concept, a high level illustration of what SYI could look like highlighting how idiosyncratic risk is managed. There is a qualitative aspect to determine eligibility (like DPI & MVI), then there is the practical quantitative considerations like liquidity to consider. Battle tested products are less risky than newly launched products. Therefore, within a risk tranche, some products are less risky that others. Ultimately, once static allocations to each asset within a risk tranche is defined, it then becomes about identifying the right asset to hold. Part of this exercise is identifying common nodes of failure and assessing the impact.

** Note: Add together all the portfolio allocations within the matrix and its totals 100%. The math is a 1x4 matrix multiplied by a 4x1 matrix to give a 4x4 matrix.

This can be expanded upon over time as AUM and products available in the market grows over time.

Risk Tranche Score Methodology

This section has been added 27.03.2021 to provide some colour around the process for assessing the risk of assets to be included in the index.

Size of Opportunity

Money Markets & Fixed Income funds are huge in TradFi and DeFi is heading much the same. The volume of stable coins in DeFi is massive compared to other assets.

After SYI has sufficient trading history, it would be a very worthy product to use as collateral. A number go up stable coin backed asset, is fantastic collateral. Especially, on Aave that enables paying off loans by selling some of the deposited funds. SYI becomes collateral you can always borrow more against over time. Imagine the flexibility this gives those treasuries and opportunities it creates.

Below is a link to site showing the size of the fixed income ETF, SYI is not the exact some product, but it gives some colour.

ETF Asset Class List & Screener - Barchart.com

Author Background

Index Coop contributor Matthew Graham aka Fire on discord. The idea is up for discussion and to see where conversation goes. Ultimately, this would become a Community Methodologist product.

I am already discussing this idea with a few DAOs, it has been favourably received and there is the potential to launch with pre-commitments from Treasuries seeking such a product. Badger already has a proposal discussing a variation of the idea detailed above.

Sentiment Check

Do you think SYI should be progressed beyond this post towards DG1 ?

• Yes - Lets explore this further
• No - Lets park it here

[DarkForestCapital]

Thanks Matt, interesting idea and really powerful as an off-the-shelf for DAOs. Have you plugged any numbers into the matrix to see what range the yield comes out at and how competitive it would be?

Also be interested to know the difference between the definitions of Variable/Productive/Vault stablecoins, do you have an example product that exemplifies each category?

Any thoughts on insurance or are you effectively saying it’s baked in via the diversification across platforms and risk level.

[MrMadila]

Agreed, looking forward to the numbers and potential portfolio mix.
Insurance is a great inclusion to the debate given the target market.

Also excited to see we are already starting to think about risk-managed, non-correlated assets/products etc at this stage of the market cycle!

[cedrick]

I like this idea. I think there will be growing demand for such a risk-diversified product as treasuries grow and mature.

Semi-relatedly, there was an interesting thread/article this morning on dollar-pegged stablecoins: https://twitter.com/RyanWatkins_/status/1375078200980742153?s=20

[Kiba]

2 quick questions.

1. Would you be interested in looking into RAI instead of USD pegged coins? RAI is very early and nascent so becoming experts in it would set us up to capture a significant share of the market around RAI products (plus it’s not fiat based which DAOs should want to avoid)
2. How would we differentiate from products with similar intentions such as tranches like BarnBridge or Saffron, yield aggregators like Idle.finance , or other index products like YETI?

[Mringz]

I am in full-support of this sort of product. This is the standard of innovation we should strive for in all our products. Innovation embedded into every Index Coop product. Our human capital is our competitive advantage. We should always strive to push the bounds of our products. I am excited to see how this product develops. True product innovation = unforkable value.

[Cryptouf]

Are you proposing something like https://popsicle.finance/ ? or more like the Yearn APE index (Power Index - Smart DeFi Index)

[ncitron]

Great proposal! There is definitely a huge market for this, and I myself have been struggling to manage my stablecoin yields and would gladly use this product. One thing I would like to see is a more concrete example of a methodology that includes the exact percentages that would go into each protocol.

Another thing I am curious about is why you selected these categories to correspond to risk levels. For example, yearn is a vault strategy, yet I do not think that it constitutes to be a high-risk product. Meanwhile, many fixed-yield stablecoin protocols are still relatively new and have a high degree of smart contract risk. I think we might be better off taking a more holistic view of risk that includes reputation, audit status, and length of time on the market.

[Nifteas]

Awesome proposal overall. I can really see this working across a number of customer types, which makes it really easy for us to market and sell.

1. Low-Mid balance DeFi user looking for exposure - Gas fee’s are a nightmare, from personal experience I’ve been really put off playing about with stable products from Gas fee’s alone, even though I know from a R/R perspective they are an attractive bet. I think you also hit the nail on the head regarding taxes. This again is another key marketing play we can use on not just this, but also other products, having one transaction really does simplify everything.

2. Large cap individuals & DAO’s - Huge huge opportunity here, especially as individuals looking to move to work full time for DAOs look for secure compensation and DAOs with recent and huge growth look to protect their futures. If we can really nail down and make the message around it as simple as possible, I can really see this having a lot of adoption.

Further thoughts - future products that have a proportion of stable, productive assets combined with DPI / maybe the BED product. The closest comparison I can draw in Index Fund world is Vanguard Lifestrategy, which is one of the most popular funds in the UK. You can choose from 80, 60, 40 - meaning your stock exposure is either 80, 60 or 40%, with the remainder in Bonds. I could see something similar happening here, where maybe you offer BED 80,60,40 - allowing individuals to tailor their exposure to 60% risk 40% stable but productive assets.

[TJB2K]

How does insuring the ideosyncratic protocol exploit risk angle affect the potential size of this product? At the moment, DFI investors cannot find Index Coop protocol abuse insurance coverage on Nexus Mutual, because it is not liisted and Set Protocol is chronically understaked by NXM staking insurance names, because it is not widely known what it does in its own name. Products like this that would be putting really big money on top of Set Protocol will require some real incentives to NXM insurance stakers. See related proposals to address the insufficiency of user insurance bottleneck on these potentially large scale (relative to available insurance capacity) very risk averse products.

[BigSky7]

This needs to be the next Index we launch after $MVI. Period. Everyone in DeFi is talking about the need for this exact kind of product!

@ncitron

For example, yearn is a vault strategy, yet I do not think that it constitutes to be a high-risk product. Meanwhile, many fixed-yield stablecoin protocols are still relatively new and have a high degree of smart contract risk.

Designing this product will require us to significantly develop our understanding of Risk within DeFi. Our Sushiswap discussions changed how we thought about LM, the same needs to happen with our understanding of risk. For an index like this it will be more helpful to think of risk as variance in yield not exposure to price discovery.

These are risks we need to consider:

• Smart contract risk is systemic and different from other types of risks. We should use smart contract risk as the control control variable to screen products for inclusion or exclusion from the Index as a whole. The only way to control for this risk is through the amount of time a protocol has been live and value locked. Neither of these guarantee safety, they are the only proxies we have for how robust a protocol is. Anything beyond these two variables is simply adding complexity without meaning.

• Exposure to impermanent loss. Any deposits within a CFMM will be exposed to IL even for mean-reverting pairs. Yields resulting from market making activity logically fall within a higher tranche of risk.

• Variance in yield. Optimal portfolio design for this product will have the expected return closely match the actual return. Variance in yield thus becomes the primary consideration when building tranches. Of special note- many of the most productive stable assets have APY’s that are boosted by non-stable reward tokens. These tokens add the most variance and the only true exposure to price discovery within the portfolio.

A good starting point for designing different tranches will be identifying the DeFi risk-free rate. The risk-free rate is the expected return on an investment in a risk-free asset. In traditional economies yields on government bonds are used as proxies for the RFR. These are clearly not a good fit in DeFi - in my mind it makes more sense to use the USDC or DAI deposit APY as a proxy.

Where do we go from there? This is exactly @ncitron’s point. How do we tranche risk at the layer above the RFR?

When building tranches at the layer above the RFR - we should go back to the risks outlined above and construct our allocations based on variance in actual returns and exposure to impermanent loss. This closely matches what you already have laid out.

• Stable Interest Rates (no variance, no IL)

• Variable Interest Rates (variance, no IL)

• LP pairs earning trading fees (variance, IL)

• LP pairs earning trading fees + LM rewards (additional variance from exposure to the non-stable reward asset, IL)

From this analysis the best returns also come with the highest variance and IL exposure. This matches how we think about markets generally.

While not explicitly a risk per se, a final consideration for the design of this Index is the number of steps required to rebalance each asset class. When this protocol rebalances some tranches (looking at you Vault Strategies!) will have take multiple-steps and have high-gas costs. This design consideration needs to be further explored, but my hunch is that it will either limit the % we can have in each tranche or the frequency of rebalances.

Great work @Matthew_Graham - this Index will fit perfectly into a number of different strategies.

[0x_Dev]

Great index suggestion @Matthew_Graham. I’d love to use this for broad stables market exposure and appreciate the elegant tax structure. I could also see this being huge - we know how big bond and FI funds are in TradFi.

Questions:

• would love to learn detailed breakdown of target portfolio and thus potential yield. With enough positive comments, will you build that?
• any thoughts on streaming fees?
• though I think the product is a no brainer, and a great next step after MVI, what are the engineers resource costs to building this?

Again, really great work mate.

[0x_Dev]

I could also see this being used in a dynamic (age adjusting) or static crypto model portfolio @Nifteas. Great point.

[Nifteas]

@DevOnDeFi it should be reasonably simple to set up, each additional fund could just include pre-existing funds in varying assortments.

As a customer that would be potentially interested I’d love to see a fund that looked something like this.

30% WBTC, 30% ETH, 20% DeFi, 20% stable productive

Then I could just dollar cost average a portion of my salary each month and not worry about making multiple transactions, and it’s suited perfectly to my tolerance for risk.

[Tim_Malibu]

I agree with @DarkForestCapital: a critical value proposition will be calculating the yield.

US Treasuries at 4% have incredible demand. At less than 2%, they have terrible demand.

A fixed-income, yield generating product is a huge opportunity. But in the real world, investors shop for yield so it can fizzle if there is not a real mastery over how SYI will maintain one of the best yield offerings on the market (commensurate with the lower risk associated with the “Stable” aspect, of course).

It might help to think about what three theoretical Yield-driven products would look like by risk tier, and which layer of the ecosystem we’d be aiming to win:

1. Stable Yield
2. Growth Yield
3. High Yield

Thank you!

[Matthew_Graham]

Hi All,

Thank you for all the feedback.

@DarkForestCapital

Also be interested to know the difference between the definitions of Variable/Productive/Vault stablecoins, do you have an example product that exemplifies each category?

I have updated the original post to include some colour around the risk tranches and the scoring methodology used to classify asset into a Tranche.

@DarkForestCapital

Any thoughts on insurance or are you effectively saying it’s baked in via the diversification across platforms and risk level.

At this point in time, I do not anticipate undertaking insurance on any particular component within SYI. I expect the diversification across the ecosystem is sufficient. Also, some products are back stopped by their respective DAO, or hedged through the use of a risk waterfall/tiered system.

@cedrick

Semi-relatedly, there was an interesting thread/article this morning on dollar-pegged stablecoins: https://twitter.com/RyanWatkins_/status/1375078200980742153?s=20

@cedrick this is great read and SYI will capture these assets as the space grows over time in a risk managed way.

@Kiba

Would you be interested in looking into RAI instead of USD pegged coins? RAI is very early and nascent so becoming experts in it would set us up to capture a significant share of the market around RAI products (plus it’s not fiat based which DAOs should want to avoid)

SYI is open to including algorithmic stable coins and even un-pegged variations like RAI. For RAI specifically - there is no liquidity for RAI-USDC which rules out holding the LP token and as for RAI itself, it has only recently been listed on CREAM with 0% interest. RAI has been audited which is good as it lowers its risk profile and this will be one to watch over time.

@Kiba

How would we differentiate from products with similar intentions such as tranches like BarnBridge or Saffron, yield aggregators like Idle.finance , or other index products like YETI?

BarnBridge is pretty cool idea. The sBONDs product has a place in SYI as it is a form of guaranteed fixed income, that is audited and by design has low risk. SYI is not a direct competitor to this product as SYI is an auto compounding product and sBONDs is a fixed interest product. sBONDs can be considered for inclusion in SYI.

Saffron is another cool idea. A fixed interest rate product, similar to BarnBridge but in Beta testing. Once audited, good liquidity, track record etc… It can be considered for inclusions in SYI.

@Cryptouf

Are you proposing something like https://popsicle.finance/ ? or more like the Yearn APE index (Power Index - Smart DeFi Index )

SYI is very different to the Crazy Ape Index. SYI is free to evolve with the ongoing innovation within the ecosystem whereas the Crazy Ape Index is fixed. SYI would also include a broader range and products, like a and c tokens from Aave and Compound respectively. An example of a key difference is SFI could include Uniswap V3 NFT liquidity tokens in time, so SYI doesn’t become outdated.

@ncitron

Another thing I am curious about is why you selected these categories to correspond to risk levels. For example, yearn is a vault strategy, yet I do not think that it constitutes to be a high-risk product. Meanwhile, many fixed-yield stablecoin protocols are still relatively new and have a high degree of smart contract risk. I think we might be better off taking a more holistic view of risk that includes reputation, audit status, and length of time on the market.

This is a great point and the post has been amended, as it was misleading by failing to identify this exact reason. Battle hardened and high TVL assets pools are lower risk than newly created strategies. I have updated the image to better reflect how the tranche approach will work. I would also suggest having a look at how Badger is approaching this as well, link.

@Nifteas

Low-Mid balance DeFi user looking for exposure - Gas fee’s are a nightmare, from personal experience I’ve been really put off playing about with stable products from Gas fee’s alone, even though I know from a R/R perspective they are an attractive bet. I think you also hit the nail on the head regarding taxes. This again is another key marketing play we can use on not just this, but also other products, having one transaction really does simplify everything.

I find the xToken, built in compounding, to be incredibly advantages for tax and it makes for a better user experience.

@BigSky7

Exposure to impermanent loss . Any deposits within a CFMM will be exposed to IL even for mean-reverting pairs. Yields resulting from market making activity logically fall within a higher tranche of risk.

This is definitely the case at the moment and CRV incentives are a big part of Curve’s model. The CRV rewards make up the majority of the yield.

@BigSky7

Variance in yield . Optimal portfolio design for this product will have the expected return closely match the actual return. Variance in yield thus becomes the primary consideration when building tranches. Of special note- many of the most productive stable assets have APY’s that are boosted by non-stable reward tokens. These tokens add the most variance and the only true exposure to price discovery within the portfolio.

There is the ability to generate some alpha. Being early and taking part in LM is risky, but with a very small allocation, it could generate oversized rewards. It will be interesting to see if the highest risk components of Tranche 4 can be used to generate alpha.

I will share an example of the portfolio composition and estimated growth (as APY is compounded) soon. It will provide some colour, hopefully enough to determine if there is interest in pursuing this product further.

[overanalyser]

Hi Matt,

Great idea, I can see a need for stable coin based products for many users.

A few questions for discussion:

1. Is it going to be classed as a security?
2. would it run as a standard issue and redem[option for all the underlying, or something more like a more active fund where people deposit / issue DAI or USDC, and we maintain a liquid portion as non income generating tokens, and the rest is placed in the income generating strategies.

[overanalyser]

Another Q for discussions:

How do we charge fees on it:
Streaming fee is one option however, would the customer be happier with us taking a % of the yield. So zero yield generates zero income for the coop.

[0xModene]

A streaming fee may be easier to implement, perhaps, and be more transparent up front as to what a user can expect to pay in fees. With what token would a streaming fee be paid? Does it have to be paid in a single token? (I’m less familiar with this mechanism, technically)

Keeping a percentage of the yield of each token would allow the Coop to keep some of those yield generating assets like aDai in a similarly diversified proportion as SYI that would further compound in the treasury.

[Matthew_Graham]

@0xModene

With what token would a streaming fee be paid?

I believe applying streaming fee on SYI would be the simplest way to generate an income from this product, much like how DPI, CGI & FLI do it.

The fee structure is confirmed at DG2, but I think it would be fair to assume any fee structure would be outlined at DG1 and the community will have ample time to comment.

I’d be interested to see what people think is a suitable streaming fee for this type of product.