State of the Market (09/17/23)

By Todd Mei PhD | State of the Market | 17 Sep 2023

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Hello Bubble Riders!

Over the past few weeks yield farming has entered a new, sustainable phase. I’m going to explain one strategy that presently yields a bit over 10% using all reputable protocols and coins. It serves as an example of the shift I’m talking about.

You need some background ideas though.

The first concerns liquid staking coins. These are coins like stETH (offered by LIDO), rETH (offered by Rocket Pool), cbETH (offered by Coinbase) and frxETH (offered by FRAX). In each case, what people are doing is depositing ETH and these protocols put that to work validating the ETH protocol. You get paid for doing that at about 3% annually.

For example, if you go to LIDO, you can deposit ETH and get stETH back, which is just ETH plus about 3% in yield. You’re then free to trade or deposit your stETH as you see fit.

The second idea turns on how to use lending protocols like AAVE to neutralize ETH price movements. There are many pools that use ETH, but if they give you a 13% yield and ETH drops 50%, your yield is pointless as you’ll still lose money (that 13% yield can’t cover a 50% loss). Is there a way to get the yield and not worry about ETH’s price movement (can you neutralize the price delta)?

Yes! Just deposit your stablecoins on AAVE and borrow ETH–let’s say it’s 10 ETH. You do need to pay a fee to borrow, but your loan is in ETH not US dollars. If ETH drops 50%, you need to repay 10 ETH. If ETH rises 50%, you need to repay 10 ETH.

You do need to worry if ETH rises too much in price, because that’s the equivalent of borrowing more against your deposit and you could get liquidated. So, just keep your borrowing amount lower than the liquidation threshold by a safe margin.

Now we’re ready for the strategy.

MakerDAO, symbol MRK, has been gaining while the rest of the crypto market has been flat. The reason is that they’ve decided to back their stablecoin DAI with US treasuries. They’ve also allowed people to mint sDAI, which is yield bearing DAI that gives you 5% for just holding the coins.

This is how regular people can get exposure to US treasuries without needing to be accredited investors or institutional investors (using the Maple protocol). As long as interest rates are high, you can jump on over to Summer.Fi and deposit your DAI for sDAI.

That’s attractive, but why not go for a little extra yield? You can take that sDAI and deposit it on AAVE. You’ll see that I started with $30k and I’ve been earning.

Importantly, AAVE doesn’t give you anything for depositing. But they do allow you to borrow against your deposit.

What to borrow? Easy, go for some combination of stETH or rETH. They’re going to cost you about .4% annually in borrowing fees.

Just remember, if the price of ETH jumps a lot, your loan amount will increase, so you’ll want to be able to pay that down quickly. To make your position relatively safe, you should probably only borrow 40% against your deposit (so $12k worth against a $30k deposit).

If you wander over to yEARN, you’ll notice the following pools.

To get the cbETH (CoinBase staked ETH) and frxETH (Frax staked ETH) you’ll have to swap what you have and there are fees associated with that.

To get ETH+, you just need to go to the Reserve Rights app, and deposit your stETH and rETH in equal parts, because ETH+ is just the combination of those two. You’ll mint ETH+ as a result.

Then deposit your ETH+ in this yEARN pool for that return 13.5%. Since you borrowed at about 0.4%, let’s say that you net about 13% on your ETH.

Here’s the math for your return (assuming a $30k pool like I had):

  • sDAI -> 5% on $30k = $1500 annually
  • ETH+ -> 13% on $12k = $1560 annually
  • Total: $3600 annually on $30,000 = 10.2% APR

And in that sequence, every protocol and every coin is reputable. That doesn’t mean that nothing will happen, but the risks of malfunctions are relatively low.

The economics behind that yield is also sustainable because it’s derived from real world assets, namely US Treasuries, work done to sustain the ETH protocol, and additional work done to supply liquidity for coin trading. Every step adds real value.

This is this new model for yield farming. It’s not as simple as depositing on Anchor and earning 20%, but it is real.

-Sebastian Purcell, PhD

The Macro Situation

“[T]the thought of ultimate loss which often overtakes pioneers,

as experience undoubtedly tells us and them, is put aside

as a healthy man puts aside the expectation of death.”

— John Maynard Keynes on the influence of “animal spirits”

Sentiment is powerful. Keynes described its importance as animal spirits influencing the market and the economy. Inflation data has been up and down these past several months, but a survey from the University of Michigan reports consumer sentiment is anticipating inflation to drop to 3.1%.

Fed Watch: 99% of economists polled think rates will be kept level this month.

The increase in Chinese consumer spending will help to drive crude oil prices ($91.20). This seems bad for inflation, yet not necessarily since wage growth is taken to be a more significant factor by the Fed. In fact, history shows that when oil prices go up, wages tend not to follow.

The auto workers strike will have immediate effects on the auto industry; but economists are anticipating little impact if the strike should last several weeks. In other words, an estimated 0.2% reduction in annualized GDP would not be enough to negatively influence a soft landing.

Gold (1945.60) and the US dollar (105.33) are continuing their odd love affair. Gold is relatively up while the US dollar is strong. Love and marriage? They are certainly odd bedfellows.

- Todd Mei, PhD and Sebastian Purcell, PhD

AI Sentiment Report

The following sentiment scores use ChatGPT as part of the AI tech stack to track sectors as leading indicators. (Lesson 4 of The Art of The Bubble covers the selection of lead indicators for bubble trades). The scores are most indicative for the next day of trading (a Monday), but they appear to set the general tone for the next week.


The methodology employed is based on this peer reviewed academic article, which produced 550%+ results in back tests over a 2 year time frame. We consider 4 and 5 scores to be positive, but please bear in mind that the AI model is still in its validation phase.

-The Research Team:

Dom Viera, Samantha Russell, Nicole Zinuhova, Aiza Malik

Happy Trading!!

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This newsletter is provided for educational and entertainment purposes only and should not be relied upon for business, investment, taxation, or legal advice. You should consult your own advisors for those matters. References to any securities or digital assets are for illustrative purposes only and do not constitute an investment recommendation or offer to provide investment advisory services. Furthermore, this content is not directed at nor intended for use by any investors or prospective investors, and may not under any circumstances be relied upon when making a decision to invest in any fund managed by 1.2 Capital Management. (An offering to invest in a 1.2 Capital Management fund will be made only by the private placement memorandum, subscription agreement, and other relevant documentation--all of which should be read in their entirety.) Any investments or portfolio companies mentioned, referred to, or described are not representative of all investments in vehicles managed by 1.2 Capital Management, and there can be no assurance that the investments will be profitable or that other investments made in the future will have similar characteristics or results.

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Todd Mei PhD
Todd Mei PhD

Todd is a former Associate Professor of Philosophy with over 16 years of research experience in the philosophy of work and economics. He is currently the lead researcher and writer for the Web3 consultancy group, 1.2 Labs.

State of the Market
State of the Market

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