The DeFi Yield Curve is Inverted
We’ve talked previously about the US Treasuries yield curve and inversions.
Does the same phenomenon happen on chain? Does it have predictive value?
Answers to these questions don’t exist yet since fixed term loans in DeFi are a fairly new, illiquid phenomenon. AAVE and Compound are the two big money markets in DeFi, and neither have truly fixed-rate loans for fixed maturities. The only thing available on them is a variable rate loan.
Yet a few protocols are treading into new territory with fixed-rate lending. With that has come the birth of the DeFi yield curve.
And now the DeFi yield curve is inverted.
A quick simplified refresher: Inversions happen when investors expect future interest rates to be lower than current interest rates. As interest rates are driven by the demand for money, this potentially signals an expectation that the demand for money (or for leverage) will drop. This is a bearish signal for growth when investors are no longer expected to be seeking increased exposure.
The DeFi Yield Curve
The yield curve in DeFi is more inverted than it has been over the last few months. Despite being slightly inverted or flat for a while, it is now clearly inverted on Notional Finance.
Under the current inverted yield curve, USDC fixed-rate loans with September 13 terms are being offered at an interest rate 3.6% lower than those with June 15 terms, while commanding a rate 4.4% lower than the prevailing instantaneous borrowing rate.
Likewise, DAI fixed-rate loans with September terms are being offered at an interest rate 1.1% lower than those with June terms, and 6.19% below the current variable borrowing rate.
Pendle Implied Yields Confirm
And, while liquidity is limited on Notional (currently around $30m in these two markets combined), we can see similar expressions on Pendle Finance. Even though Pendle is not a money market per se, it gives some information about where market participants think interest rates are going in the future.
Here we see the aUSDT implied APY for Sept maturities around 2% lower than the underlying APY (a 7-day average of instantaneous rates).
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Bears on the Horizon
Despite the booming bull market, with Bitcoin breaching all time highs, why are people betting on lower rates in the future?
The simplest answer here is that the bull market can’t last forever. Crypto bull markets tend to run their course pretty quickly once new all time highs are being stamped.
And now that we’re in the middle of the bull, investors are looking at what’s next.
Particularly interesting to me are the significantly lower rates for June 15 terms. Could the cycle be finished within 3 months from now?
Building Better DeFi Yield Curves
This is a good place to mention our newsletter sponsor Size, a marketplace for fixed-rate loans of any term. With the upcoming Size launch, borrowers will be able to borrow for any term, creating a continuous yield curve that may give us more signals about where investors think the market is headed, and when.
That’s all for now. Thanks and have a great week!
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And a big thanks to our sponsor Size, building a DeFi lending marketplace with unified liquidity across maturities. Coming soon!
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