DeFi Ethereum

Welcome yTokens: Yield Protocol Unveils New “Zero-Coupon Bonds” DeFi Primitive

Heads turned this week around the roll out of the Yield Protocol, a new Ethereum project that's approaching digital bonds in unprecedented fashion.
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Bonds are one of the areas where Ethereum holds tremendous promise. That’s why heads turned this week around the roll out of the Yield Protocol, a new Ethereum project that’s approaching digital bonds in unprecedented fashion.

Announced on Wednesday, May 7th, Yield is a startup that’s working to bring about “fixed-term, fixed-rate lending and interest-rate markets to decentralized finance.”

The company is notably the first startup incubated by Paradigm, a top crypto investment firm, and it builds off work published in a paper last month by Paradigm’s researcher Dan Robinson and Yield founder Allan Niemerg. That paper was “The Yield Protocol: On-Chain Lending With Interest Rate Discovery.”

In a Twitter thread introducing the project, Niemerg said the effort’s associated tokens, yTokens, were a novel kind of “money lego” built atop Ethereum that could lead to new kinds of DeFi activities:

“Yield is building yTokens, a new DeFi primitive, on Ethereum. The first token supported by the protocol will be yDAI, which will enable fixed-rate borrowing and lending in the Dai stablecoin with ETH collateral.

Diving Deeper

What’s interesting about yTokens is how they combine a bond-like model with the best of Ethereum’s DeFi world in a way that hasn’t been seen in the space before. As the aforementioned Robinson and Niemerg explained in the Yield Protocol whitepaper’s abstract:

yTokens are like zero-coupon bonds: on-chain obligations that settle on a specific future date based on the price of some target asset, and are secured by collateral in another asset. By buying or selling yTokens, users can synthetically lend or borrow the target asset for
a fixed term. yTokens are fungible and trade at a floating price, which means their ‘interest rates’ are determined by the market.”

Such a system is unprecedented, and it already points to an array of new DeFi offerings that can be built on, or rely on, yTokens like the coming yDAI product. But how does the system work exactly? The whitepaper’s authors noted:

“You can create yTokens by depositing collateral, then sell them to effectively borrow (and short) the target asset. Buying yTokens is economically similar to lending the target asset. The effective ‘interest rate’ received by yToken holders is determined by the discount at which yTokens currently trade, as well as the time to maturity.”

Ethereum Bustling with New DeFi Projects

As the top smart contract platform right now, Ethereum is dominating when it comes to the pace of fresh and promising financial projects that are being launched on it.

Yield Protocol is the latest oncomer, but there are other recent bond-related initiatives that are also worth considering. One of those top upstart efforts is “reflex bonds,” which were unveiled last month by blockchain developer Stefan Ionescu in an article titled “Stability without Pegs.”

In that post, Ionescu outlined how to create a bond product on Ethereum that could provide stablecoin-like price stability without maintaining an arbitrary peg to a specific price, e.g. the $1 USD that’s proven popular and common in the cryptoeconomy to date.

In other words, such reflex bonds would have “floating redemption prices” that should in practice be more resistant to significant market movements compared to traditional stablecoin offerings. As Ionescu explained:

“The purpose of a reflex-bond is to be a more stable representation of its collateral while still maintaining a high level of trustlessness. If used in other protocols, a reflex-bond can shield its users against major and sudden moves in the cryptocurrency markets. For example, if Maker had used reflex-bonds as collateral prior to Black Thursday, [Maker Vault] creators would have had more time to avoid complete liquidation.”

Along with yTokens, reflex bonds thus point toward a bright and robust DeFi ecosystem continuing to develop on Ethereum.


William M. Peaster is a professional writer and editor who specializes in the Ethereum, Dai, and Bitcoin beats in the cryptoeconomy. He's appeared in Blockonomi, Binance Academy, Bitsonline, and more. He enjoys tracking smart contracts, DAOs, dApps, and the Lightning Network. He's learning Solidity, too! Contact him on Telegram at @wmpeaster

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