Rates Changes Proposal 6 Jan 2021

[Primoz]

Authors: @Primoz, @LongForWisdom , @Hexonaut, @Monet-supply, @SebVentures, @Akiva

Source: Risk Premiums & Competitive Rates 6 Jan 2021

Table Notes:

• Competitive rates are based on lowest stablecoin borrow rates on each lending venue for particular collateral, except when stablecoins are used as collateral (in such case only DAI borrow rate is compared)
• Negative competitive rates are mostly due to liquidity mining rewards at Compound & Cream and due to rates and rewards accrued on deposited collateral
• Risk premiums were recently updated for every Vault type except stablecoins where we used values from last governance votes. Links to calculations can be found in the table above.
• Lending products between secondary lenders and MakerDAO are not standardized and therefore rates can not be strictly compared.

Lending Market Overview

Crypto bull run continued in December and market rates for US dollar borrowing on crypto collateral continued to increase:

• Futures basis rates are higher again (source)
• Centralized margin platforms such as Bitfinex which rely on USD lending markets to offer leverage have had USD borrow rates at levels above 20% (source)
• Bitmex long 8h funding rates are still persisting at elevated levels. 8h funding rate is currently at 0.1%, implying 110% annual rate for maintaining a leverage long position (source)
• Importantly, DeFi competitive rates for USD borrowing at Compound and Aave are again higher by more than 2.5% on average (see analysis below)

DeFi is also continuing increased growth in terms of outstanding loans and collateral locked (TVL). Total amount locked in lending platforms increased to an all time high of $9.8bn and loans outstanding between 3 largest platforms amounted to $3.5bn. The collateralization ratio improved as loan origination growth was slower than the pace of collateral price increase. Therefore we are expecting additional borrowing demand if collateral prices are able to hold these levels.

Competitive Landscape

Rates at secondary lenders such as Aave and Compound have been trending upwards in the last month, explained by increased leverage seeking activity and users potentially switching from stablecoin assets to crypto assets to participate in a bull run. DeFi rates have increased by 2.5% on average in the last month, one of largest increases observed in the past.

Source: Loanscan

Proposed Rate Changes

ETH-A: SF increase from 2.5% to 3.5%

As noted above, CeFi & DeFi market rates have risen sharply over the last month and the average competitive rate for ETH increased for another month by 1.5%. ETH has experienced a 100% price increase in one month alone and DAI minted from ETH-A increased by 37% in the same period. Therefore we are expecting additional demand for DAI minting on ETH should the price be able to hold these levels or further increase.

We are suggesting a SF increase of 1.0% mainly for two reasons:

1. The risk premium will increase due to the increased debt ceiling and is already above current SF.
2. Competitive and market rates are continuing to increase. At 3.5% SF, ETH-A is still competitive to the average competitive rate of 6.8% observed currently.

We have limited the ETH-A increase to 1.0% at this time because:

1. Much of the community appears to want to decrease the current reliance on centralized stablecoin collateral. Ensuring Maker’s rate remains competitive should encourage more minting which may displace stablecoin collateral.
2. Proposing smaller, more frequent changes to SF rather than larger changes is less likely to drive away vault holders, and may increase trust in the Maker Protocol for longer-term usage.

ETH-B: SF increase from 5.0% to 6.5%

There is clearly a large demand for ETH 130% LR type vault, supported by evidence of increased minting activity over the last 2 weeks. The product is currently one of the most competitive ETH leverage products on the market. Maker is the only platform that offers the 1 hour OSM delay for users to avoid liquidations and therefore sophisticated users don’t mind maintaining low collateralization ratios.

However, the current 50m ETH-B exposure comes with a 7% risk premium for Maker and therefore we are proposing a 1.5% SF increase to 6.5%. While this SF does not compensate for the risk premium fully, it keeps the rate competitive and below the average USD rate observed for ETH.

WBTC-A: SF decrease from 4.5% to 4.0%

DAI minting from WBTC-A decreased by 22% in the last month despite BTC price increase of 81% in the same period. It is possible that the last rate increase of 0.5% to 4.5%, although still being competitive on average, led to some larger users leaving Maker.

We don’t have clear evidence of the same user refinancing to Compound which is the only other platform currently offering lower rates on WBTC (including COMP rewards). However this past strong BTC rally should attract more DAI minting and a smaller SF decrease of 0.5% to 4.0% is therefore proposed.

YFI-A: SF decrease from 9.0% to 6.0%

The last rate increase from 4% to 10% and later to 9% may have driven away one large YFI vault user. However, the current 9% rate is not as high compared to Aave where rates are lately very high or volatile and it is hard to borrow large sums of USD on that platform without impacting rates.

The lower current debt exposure carries only a 2% risk premium, but since we can potentially expect increased demand at lower rates we are proposing 6% SF. If the debt ceiling gets fully utilized again and collateralization levels are less healthy an alternative YFI-B with higher LR is a possible solution to meet increased demand at lower rates.

MANA-A: SF decrease from 10.0% to 5.0%

MANA liquidity improved on Coinbase listing and risk premium fell sharply for the current DAI debt exposure of 300k. @Risk will separately propose DC increase to 1m, whereas the Rates Group proposes a SF decrease from 10% to 5%.

AAVE-A: SF decrease from 6.0% to 4.0%

Despite the 6% SF being competitive enough, the small initial debt exposures carries much smaller risk premium and lower rates could be justified. We are proposing a rate decrease from 6% to 4% to attract new user demand.

No Change

BAT-A: SF No change (8.0% SF)

The BAT-A risk premium increased due to lower liquidity metrics and a bit lower collateralization ratios. We will mitigate risks separately by @Risk proposing a decrease of debt ceiling from current 10m to 2m.

KNC-A: No changes (2.0% SF)

No changes are proposed as debt exposure is still insignificant.

ZRX-A: No changes (2.0% SF)

No changes are proposed as debt exposure is still insignificant.

LINK-A: No changes (2.0% SF)

No changes are proposed.

COMP-A: No changes (2.0% SF)

No changes are proposed as debt exposure is still insignificant.

LRC-A: No changes (3.0% SF)

No changes are proposed.

BAL-A: No changes (2.0% SF)

No changes are proposed.

UNI-A: No changes (3.0% SF)

No changes are proposed.

UNIV2DAIETH-A: No changes (1.0% SF)

No changes are proposed.

RENBTC-A: No changes (6.0% SF)

No changes are proposed.

USDC-A, TUSD-A, PAXUSD-A, GUSD-A: No changes (0.0% SF)

No changes are proposed.

Final Note

To conclude, we think Maker should continue to take advantage of the bull market and increased rates environment in both CeFi and Defi to increase rates on ETH-A and ETH-B where we saw large user demand in the last month. We are proposing rate increases that are still in line with competition and shouldn’t cause users to refinance. Higher proposed stability fees on ETH vaults also helps to hedge from increased risks from growing debt exposure lately.

We are also proposing a decrease to rates for particular vaults where the risk profile has improved due to lower debt exposure (YFI-A, AAVE-A) or liquidity improvement (MANA-A) or where we believe we should be witnessing more user demand (WBTC-A).

Proposed SFs will get included into next week’s on-chain poll on Monday 11th January, and if passed will be included in an executive vote on Friday 15th January.

[Aaron_Bartsch]

Looks good. Whats the plan for increasing DC on ETH-B and Uniswap DAI/ETH? Are we waiting on signal requests to increase those? Are there any risk implications to increasing those we should be aware of?

[mario]

@Primoz

The last rate increase from 4% to 10% and later to 9% may have driven away one large YFI vault user. However, the current 9% rate is not as high compared to Aave where rates are lately very high or volatile and it is hard to borrow large sums of USD on that platform without impacting rates.

Deposit rates in aave for YFI were substantially high recently which would account for part of the migration, at a reasonable 6% with secondary lending platforms increasing their rates due to shortage of stablecoins and presuming no significant short selling of YFI I’d expect the collateral to grow which is both good for yearn and maker

[LongForWisdom]

There is an ETH-B signal here. I would encourage people to consider @Risk’s statements before voting.

There is also a DAI/ETH Uniswap LP token signal here. Again, I would encourage people to vote but to consider the statements from the mandated actors.

[Aaron_Bartsch]

I totally forgot those existed. Thanks!

[Jiecut]

Nice proposal.

Incremental changes to ETH-A and ETH-B while keeping the rates competitive.

Slightly making the WBTC-A Vault more attractive. Lowering the YFI-A SF to a more competitive rate.

[hongbiao_li]

Very reasonable SF change, this SF change is fully supported. The analysis of competitive interest rates is very thorough. like.

[ejbarraza]

I am in strong support of lowering the Stability Fee on YFI. This will definitely get used up quickly given that Andre Cronje is expected to release v2 vaults in a week.

[Spidomo]

It’s great to have this coherent high quality data driven analysis and proposal.

Really interesting to think how it will work when multiple independent high quality risk teams have divergent proposals.

[alexis]

While overall I agree,

I think we should think about ETH having a lower rate for multiple reasons and a more stable rate. New joiner, …

Maybe open an eth-c with 1% or less and CF at 50%. Especially because we have now plenty of dai to sell.
I can see eth-b used by user with high level of market knowledge and eth-a users with good knowledge too. But what about new joiner, they need a entry point, and a low level of rate help them to step up.

[mrabino1]

While in general, I agree with the above proposal. I do take specific concern around the below.

@Primoz

we think Maker should continue to take advantage of the bull market and increased rates environment in both CeFi and Defi to increase rates on ETH-A and ETH-B where we saw large user demand in the last month. We are proposing rate increases that are still in line with competition and shouldn’t cause users to refinance.

Similar to “value-based” pricing of any good or service, it is always a slippery slope that inevitably has unintended long-term consequences. AWS wouldn’t be around (and definitely not leading) if their pricing was value-based instead of utility-based.

WRT to Maker, the primary concern then being, how much value can be extracted from the end user before he / she will refinance. While minor today, this can be exceptionally dangerous.

My from my lens, risk-premium pricing should be driven around the risk of default. Not how much can be can extracted.

Fiscal policy, monetary policy, and risk policy need to be segregated as much as possible ** all ** of the time. There will always be a large temptation to merge them. It is strongly recommended for all us to be ever-vigilant in keeping them apart.

[ElProgreso]

Matt!! You’re back! Happy New Year Bud!

[Primoz]

@mrabino1

WRT to Maker, the primary concern then being, how much value can be extracted from the end user before he / she will refinance. While minor today, this can be exceptionally dangerous.

My from my lens, risk-premium pricing should be driven around the risk of default. Not how much can be can extracted.

If risk premium is a particular number, Maker should be always aiming to be above it because risk premium represents expected loss. The spread between SF and risk premium generates MKR capital. Without spread MKR would be pretty much worthless (except for the MKR value accrual of governance part).

But I do agree that we should be cautious. Finding equilibrium rate in time that still maintains or grows users and maximizes the spread is hard, but we are doing our best by looking at competitive markets and market rates in general because this is the only signal we get plus dynamics seen at MKR. I think the approach is right but concern you pointed to is valid and you can find our similar thinking here:

@Primoz

We have limited the ETH-A increase to 1.0% at this time because:

1. Much of the community appears to want to decrease the current reliance on centralized stablecoin collateral. Ensuring Maker’s rate remains competitive should encourage more minting which may displace stablecoin collateral.
2. Proposing smaller, more frequent changes to SF rather than larger changes is less likely to drive away vault holders, and may increase trust in the Maker Protocol for longer-term usage.

[MakerMan]

@Primoz

If risk premium is a particular number, Maker should be always aiming to be above it because risk premium represents expected loss. The spread between SF and risk premium generates MKR capital. Without spread MKR would be pretty much worthless (except for the MKR value accrual of governance part).

I agree both with @mrabino1 general concerns. That we could go too far. I am pretty sure my own look at rates vs. market pricing in the past indicated a pretty strong correlation of rates to collateral pricing. Rates too low and we get a significant bull run. Once we hit the top at high rates and the collateral prices started to move down. Maker literally couldn’t loosen enough, fast enough, to stop the collateral price drop.

DeFI is a little healthier than Maker now, but honestly I don’t think keeping rates lower longer helps these risk-on risk-off blow off tops as the market demands seem to be driving these.

In the end it isn’t just value capture, but a cash buffer to build against risk of default(s) and a careful strategic management both of risk and value added.

Hence I agree with @Primoz reply. Given Maker rates don’t have any element of dynamism we don’t get any signals on what the market ‘wants’, because there is no way for rates to fluctuate based on demand at Maker itself. So we have to rely on trying to estimate Maker rates against what we are seeing in the DeFI space. My concern is lowering wBTC. While we have lost some borrowers? What is the risk of default there? One thing I would like to see in addition to such a rate change analysis is what Maker’s risk profile looks like (i.e. LRs vault graphs for the asset). I consider the default exposure risk on these vaults to be a higher concern than matching rates.?

I see that there are two components to SF. One is competitive and value extractive, the other is risk based. While we want to optimize value extraction, imo to be the strongest DeFI shop on the block we have to base SF more on managing risk than on return and in that sense I am with @mrabino1 here in terms of approach.

I love the report @Primoz but would urge your team in such a report to include the LR risk profile graphs and include a default risk analysis as risk is actually more important to me than what the DeFI rates look like and optimizing value capture.

Once I see the vault risk profiles I can make a better decision about rates.

I would also urge your group undertake some discussion regarding general system implications on the SF now that Maker is using the PSM to deal with PEG management.