Thread by @JackNiewold

Are crazy-high crypto yields sustainable?

A thread on :
• Where crypto yields come from
• Why they're insanely high 📈
• If/when it will all come crashing down 📉

Read on👇

Source: (@hasu and @zhusu, Uncommon Core podcast)

There are three broad types of yields in the market:

• Demand for leverage (margin)
• Native token distributions (token yields from protocols)
• Yield from network activity (cash-flow distributions)

We'll break these down, so if you don't understand, don't panic yet.

1. Demand for Leverage

This yield comes from people/institutions looking to borrow USD to trade crypto. It looks like this:

• You deposit your money into Blockfi/NEXO/etc.
• Institutions and retail investors borrow it
• They make leverage trades
• You get paid interest

Why do these players use leverage?

• They're degens looking to lever up on risk/reward
• They're 'smart money' looking to lever up on arbitrage/market-neutral strategies

These institutional trades are low-risk/low-reward which means leverage helps them extract value.

Have you heard about $BTC contango?

Institutions can make a trade where they buy $BTC today, sell a futures contract, and make profit by holding $BTC until expiration.

You hypothetically want UNLIMITED leverage on this 'risk-free' trade.

Demand for this leverage is high because of the many opportunities in crypto.

As long as markets are inefficient and want leverage, high stablecoin yields will exist.

Demand for this leverage might dry up in a bear market with low volume/low speculation, but it won't go away.

2. Native token distributions

How is it possible that platforms like Sushiswap pay out such high yields?

Well, Sushiswap is a decentralized exchange, which needs liquidity so users can trade assets. Sushiswap attracts people to PROVIDE liquidity by paying out its native token.

Early in a protocol's life cycle, no one knows if it will be successful.

Thus, it is forced to provide high yields so that people will use the platform.

The yield gets paid out to users in a token. Based on the perception of that token, it becomes more or less valuable.

These young protocols will always have tokens that are poorly understood and might moon or might tank.

So they have to pay out huge yields to incentivize adoption.

It sometimes turns into a game of who-can-get-out-first.

But because valuations are based on little/poor info, it's impossible to know if they'll be valuable.

So high yields for young protocols are here to stay, but they can rug.

So this yield farming requires liquidity providers to sell tokens/move money around to manage risk.

3. Yield from Network Activity

Yield from network activity happens when young protocols become successful (Uniswap, Spell, Maker)

Yields are still paid out in native tokens, but the tokens are backed by real quantifiable value.

The team has executed, and now token holders are entitled to the value created by:

• Cash flows from exchange fees/borrowing
• Growth potential
• Governance
• Treasuries

Yields can be high early on for liquidity providers, but shrink as an accurate and consistent valuation for the token exists.

These assets are lower risk/lower reward.

And because value comes from real-world cash flows, real yields will drop when cash flows drop.

This last type of yield will:
• drop in bear markets
• drop because yield farming the protocol is not as risky

However, it still remains higher than the 0.5% yield provided by a bank account.

So, to wrap up:

• Yields in crypto come from different places
• In the current environment, yields will stay higher than yields in TradFi markets
• Yields will drop in a bear market, especially as trading volumes drop, across categories

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