Real World Asset Lending: Q2'22

Pretty much every category of DeFi protocol is deep in the hole. Alt-L1s, dexes, lending/borrowing, bridges, and yield protocols have all been crushed. The top 10 protocols by TVL on DeFi Llama is a sea of red on the monthly.

However, there is one category of protocols doing well during this bloodbath. That category is none other than Real World Assets (RWA) lending protocols.

A couple of weeks ago, I wrote an article on the RWA lending protocol Cytus. This time, we’re going a bit more general. In this article, we’ll briefly talk about what a RWA lending protocol is and why they are gaining in popularity, and then we will compare and contrast five of the more popular RWA lending protocols (Maple, TrueFi, Goldfinch, Centrifuge, and Clearpool) so that you can pick the protocol that best fits your needs.

Let’s get into it.

One of the pillars of DeFi is the ability for people to earn an attractive yield. It’s a huge selling point for us, as earning a halfway decent yield is notoriously difficult in TradFi. During the bull market, sky high APYs were a dime a dozen. These outsized APYs drew in more liquidity, which further boosted APYs, which drew in more liquidity, and on and on it went.

Unfortunately, the bear market has shown that these yields are fickle. DeFi yields were coming from massive native token emissions and a lot of new money entering the system. Both work great during a bull market, but are unsustainable in a bear market. The positive flywheel seen in the bull does a 180 during the bear. When liquidity dries up the APYs drop, which further dries up liquidity, which drops APYs even further. It’s a vicious cycle that we need to escape to resume the good times.

One set of protocols that are still producing healthy yields are RWA lending protocols. Many of them are still offering 8-12% APYs, which is why their TVLs have continued to increase even during the market downturn. How are they doing this? By connecting DeFi liquidity with TradFi borrowers.

There is a lot of demand for liquidity in TradFi, but the bureaucratic red-tape has made it awfully difficult for them to fulfill their demand. Meanwhile, there is a ton of liquidity in DeFi ready for lending, but nowhere that is safe and/or sustainable to put it. What RWA protocols have figured out is that by connecting DeFi liquidity with TradFi borrowers, both parties get what they want. TradFi people get the liquidity that they are willing to pay a hefty interest rate for, while DeFi people get a safe place to earn a good yield. Win-win.

At a high-level, this is what Maple, TrueFi, Goldfinch, Centrifuge, and Clearpool all do: lend DeFi liquidity to approved TradFi borrowers. They all do this by using a lending pool, which works pretty much exactly how you would expect it. TradFi people apply for a loan at a fixed interest-rate and collateral level, DeFi people deposit liquidity into the pool, and TradFi people borrow stables from it. The differences between the protocols are found in the details.

Specifically, we will be examining their differences in pool creation, their target audience, what collateral they accept, their levels of permission, how they mitigate risk, how withdrawals are handled, and how yield is generated.

On Maple, pools are created by borrowers, who borrow the funds for a fixed term, at a fixed rate, and at a fixed collateralization ratio. To create a pool, borrowers must be whitelisted by a Pool Delegate. Borrowers can only request a pool after they are whitelisted by a Pool Delegate, and even then, the pool will not be created until the Pool Delegate approves it.

On TrueFi, the process is pretty similar. Prospective borrowers have to apply and be whitelisted before they can propose a pool. However, instead of having Pool Delegates approve the pool, TrueFi has stakers approve the pool. Holders of stkTRU vote on pool applications, and if there is a minimum of 15 million votes and 80% of those votes are yes, then the pool is approved.

Goldfinch is similar to TrueFi. Approved borrowers propose pools. Once approved, borrowers stake an amount of GFI equal to double the cost of an Auditor approval. Then, investors, known as Backers, need to deposit liquidity into the junior tranche. This initial junior tranche liquidity is very important, as it signals to other investors that the pool is safe.

On Centrifuge, borrowers, known as Asset Originators, tokenize their RWA and give it to Issuers, who then “holds” the assets, draws down the financing from Tinlake, issues tokens in return for investments, and legally manages the pool.

The process on Clearpool is pretty simple. Borrowers must be approved before they can propose a pool. They then stake a minimum amount of CPOOL tokens to launch a pool. Only then can lenders fund the pool.

Maple, TrueFi, and Clearpool all focus on lending to institutions. Think big companies with a lot of money.

Goldfinch targets lending business in emerging markets, as they believe this is where DeFi liquidity can have the greatest societal impact.

Centrifuge focuses on SMEs (Small-Medium Size Enterprises), as they believe SMEs have historically been disadvantaged when it comes to borrowing TradFi liquidity.

The collateral level on Maple is decided on a case by case basis by the Pool Delegates. The majority of loans are uncollateralized. Other loans are undercollateralized, meaning that the borrower has to provide on-chain assets like ETH or WBTC and send them to a loan vault. When the debt is repaid, the collateral is returned.

Goldfinch and Centrifuge both require off-chain collateral from borrowers. In Goldfinch, Borrowers sign real-world legal agreements with Backers and supply off-chain RWA collateral that matches the value of the loan. In Centrifuge, RWAs like invoices, mortgages, or even streaming royalties are tokenized in the form of an NFT, which is then used by Issuers to start a pool.

TrueFi and Clearpool both give uncollateralized loans. This is achieved through the idea of credit-worthiness. Basically, these protocols make the assumption that because borrowers will likely want to borrow money in the future, it is in their best interest to repay loans and stay in the good graces of investors.

TrueFi, Goldfinch, and Centrifuge are all permissioned protocols. Lenders must go through a KYC process and be approved before they are able to partake in lending pools.

Maple and Clearpool is a mix of both, as pools can either be permissionless or permissioned, depending on the pool delegate's preference in Maple and borrower’s preference in Clearpool.

As is the case with any lending protocol, protecting lenders is of the utmost importance to RWA lending protocols. Protecting lenders come in two stages: preventing defaults, and reimbursing lenders as much as possible when defaults do happen.

In Maple, pool delegates are extremely important. Only chosen after a rigorous approval process, pool delegates are responsible for the health of Maple’s lending pools. They do this through vetting each borrower, approving loan requests, and setting up lending pools. Finally, to ensure that their interests are aligned with the lenders, Maple requires each pool delegate to have some skin in the game and post MPL tokens to be used as first-loss capital. That way, if the borrower defaults, the Pool Delegate suffers too.

In the event of a default, Maple has what is known as Pool Cover. In essence, pool cover is the pool of first-loss. This means that in the event of a default, the protocol will first draw from the Pool Cover to cover the losses. Pool Cover is funded by Pool Delegates and willing MPL holders.

TrueFi has a few different measures to protect lenders. To prevent defaults, TrueFi undertakes a complete credit review of each prospective borrower before a loan can be requested. Each loan request must then be approved by stakers before a pool can be deployed.

If a default does happen, stakers act as the pool of first-loss, as it is their funds that are liquidated first in the event of a default. TrueFi also has a Secure Asset Fund for Users, or SAFU for short. SAFU is funded by TrustToken (parent company of TrueFi), and acts as another source of liquidity to cover defaults. Finally, TrueFi users can also purchase smart contract cover through Nexus Mutual, which insures a user's tokens in the event of a technical exploit.

Goldfinch relies on Backers to prevent defaults, as they are the ones initially assessing the health of pools and providing liquidity. They are incentivized to do this job well because In the event of a default, it is their liquidity that is lost first. Additionally, like TrueFi, Goldfinch has smart contract cover through Nexus Mutual.

Centrifuge counts on Asset Originators and Issuers to make good loans that are unlikely to default. If a default does happen, investors into Centrifuge’s junior tranche token TIN eat any losses first.

To prevent defaults, Clearpool requires each borrower go through an extensive onboarding process which includes a credit risk assessment. If a default looks likely, there is a series of circuit breakers which alerts both borrowers and lenders that a default is getting close. If default does happen, there is an insurance pool funded by 5% of the pool's interest that attempts to cover the loss. If that’s not enough, there is an auction for the debt, giving lenders a chance to recoup some capital.

It’s a topic easily overlooked, but in a market as volatile as crypto, being able to withdraw liquidity quickly is important.

In Maple, although lenders can claim their earned interest at any time, withdrawing the principle is a bit trickier. Users must wait 90 days after depositing to be able to initiate a withdrawal. Once a withdrawal is initiated, they must wait another 10 days to actually withdraw the money. After the withdrawal, they must wait another 48 hours before they can transfer the funds out of the protocol.

There is no withdrawal wait time in TrueFi. Instead, lenders can exit at any time by selling their lending pool tokens back to the pool, as long as there is enough liquidity in the pool to sell into. To exit the pool, users do have to pay an exit fee. This exit fee is determined by how much liquidity is in the pool. The more liquidity in the pool, the lower the exit fee.

The process is even simpler in Goldfinch, Centrifuge, and Clearpool. In Goldfinch, lenders receive an NFT that tracks their portion of the pool, and this can be redeemed at any time. Meanwhile, in Centrifuge and Clearpool, lenders can simply withdraw at any time.

It is often said that if you don’t know where the yield is coming from, you are the yield. None of us want to end up as exit liquidity, so let’s check out where the yield is coming from.

In Maple, there are three sources of yield. First, there is the interest earned from the loans. Next, there are MPL rewards from staking. Finally, protocol fees are periodically shared with MPL holders, either by MPL buybacks or direct distribution.

The sources of yield for TrueFi are very similar to Maple. The main source is the interest earned from the loans. Users also have the ability to farm TRU via staking lending pool tokens, providing liquidity to the Sushiswap TRU/WETH pool and staking that LP token, or staking TRU in TrueFi. Finally, protocol fees in the form of stablecoins are also distributed to TRU stakers.

Similarly, the yield from Goldfinch also comes from interest rates, GFI farming, and protocol fees distributed to GFI stakers in the form of stablecoins. However, unlike Maple and TrueFi, not all lenders earn an equal amount in Goldfinch. Backers, because they are supplying capital to the riskier first-loss pool, earn higher yields than investors to the safer senior pool.

Centrifuge is similar to Goldfinch. Lenders earn a mix of interest and CFG rewards. Investors in the riskier junior tranche token TIN earn a higher yield than investors in the safer senior tranche token DROP.

Like the others, the yield on Clearpool comes from interest on the loans and CPOOL rewards for staking. Protocol fees are not directly distributed to CPOOL holders/stakers, but are instead used to buyback and burn CPOOL tokens.

It is clear that although all these protocols operate very similarly, there are some slight differences in how they go about their business. All five of the protocols are doing good work and gaining in popularity, but for those of us just trying to earn some sustainable yield during this bear market, it’s important to pay attention to these slight differences, do your research, and pick the protocol that best fits your needs. Hopefully, this article helped get your research started.