In today’s financial landscape, US treasury bills offer a meager ~5% APY which is barely enough to beat the inflation rate of 3.4%, leaving much to be desired.
On the other hand, the prospect of using DeFi to yield farm with volatile assets seems way too risky.
However, amidst this dilemma lies a promising solution: stablecoin yield farming.
By using stablecoins which are pegged to currencies like the US dollar, you can take a balanced approach to generating high yields in DeFi.
In this guide, we’ll explore the fundamentals of stablecoin yield farming and show you how to leverage stable assets for increased returns.
What is Stablecoin Yield Farming?
Yield farming involves depositing crypto assets into DeFi protocols to earn interest through revenue share, and in some cases token inflation.
But instead of using volatile assets, stablecoin yield farming involves the use of stablecoins. By using stablecoins to yield farm, you can earn interest using stable assets and create the DeFi equivalent of a high-yield savings account.
How to Stablecoin Yield Farm
To yield farm with stablecoins you’ll need to acquire stablecoins from a centralized exchange (CEX) or decentralized exchange (DEX). Once you have your stablecoins, you can pick a DeFi protocol and deposit your coins.
For the most part, there are 4 types of protocols that you can deposit to and earn yield:
- Decentralized Exchanges (DEXes)
- Lending Markets
- Yield Aggregators/ Yield Optimizers
- Special-Strategy Vaults
Decentralized Exchanges (DEXes)
At the base layer of yield farming are decentralized exchanges (DEXs).
Decentralized exchanges (DEXs) require liquidity for traders to execute trades with low slippage, so they allow users —like you— to deposit their tokens onto the platform and become liquidity providers.
As a liquidity provider, you receive a receipt token equivalent to your share of the liquidity pool, which you can deposit into a “farm” on the DEX –solidifying your contribution to the LP (Liquidity Pool).
In return, DEXes capture the fees from each trade and distribute them to liquidity providers –commensurate to their deposit.
To find the top DEXs for your blockchain, visit DefiLlama.
Finding stablecoin liquidity pools on DEXes
To find stablecoin LPs you should start with the following steps:
- Filter LPs by ‘stablecoins’ or ‘stables’
- Sort the results by ‘Volume’.
Following these steps on Balancer via the Arbitrum network, we get the following results, with the USDC/DAI/USDT/USDC.e LP as the top pool:
To decide the best LP option, let’s focus on three key aspects of each LP:
- Composition
- Volume
- APR
Composition – The composition represents the tokens you will be providing. As each stablecoin is backed by different mechanisms, they come with different risks. And to gauge your risk accurately, you should be familiar with each stablecoin in the LP that you pick.
Volume – Trading volume aka volume, represents the amount of funds that the LP facilitated trades for. So sorting by volume shows the LPs that experience the most trading activity, thus garnering the most platform revenue.
APR – APR stands for Annual Percentage Rate and shows you how much you can earn in interest as a liquidity provider.
In some cases, you’ll notice that the LP with the highest volume doesn’t have the highest APR. This happens because rewards aren’t only controlled by the trading activity of the LP. Instead, certain pools receive rewards from the DEX or partner platforms for incentive rewards campaigns. These campaigns emit tokens to specific LPs to incentivize deposits through boosted interest rates.
Furthermore, rewards for these vaults are usually dispersed in a manner that auto compounds the platform revenue into your original position and allows you to claim incentive rewards as liquid tokens.
Here’s a breakdown between the incentivized rewards (Staking APR) and trading-volume rewards (Swap fees APR) for the USDC/DAI/USDT/USDC.e LP on Balancer:
It’s common practice to swap the incentive rewards to stablecoins weekly to avoid volatility. The swapped tokens can be deposited to increase your original position or used for things like DCAing into a volatile asset.
Voter Escrow (VE) Strategies
Some DEXes (and Lending Markets) may allow you to lock up their governance token, which grants boosted yields. Assuming you have conviction in the project, and would also like to boost your yields, you should buy & lock their token.
For Example, if you have a USDC/MAI LP position on a DEX like SpiritSwap, you can lock their token $SPIRIT which boosts the APR you earn on your LP deposits.
Lending Markets
Lending Markets allow you to provide tokens as collateral and earn interest on your deposits. This collateral can be used by you or other users to take out loans aka borrow funds from the platform.
Providing Collateral
To get the best rates for providing collateral you must pay close attention to utilization rates. Utilization rates are percentage values that show how much of an asset has been borrowed.
High utilization rates denote overborrowed assets, which means the collateral of an asset is almost depleted. And since lending markets strive to never run out of assets, they provide higher interest rates for overborrowed assets so depositors can strengthen their liquidity.
Let’s use Aave on Arbitrum as an example. The stablecoins with the highest utilization rates also have the highest interest rates for collateral deposits:
Over-collateralized loans
Lending your tokens without borrowing any is the approach with the least risk. But if you want to take things a step further you can take out a loan as well.
If you’d like to take out an over-collateralized loan and use the liquidity elsewhere, you should look for underutilized assets.
Inverse to over-borrowed assets, underutilized assets have lower fees for loans because the collateral is not close to being depleted.
In some instances, the asset you want to borrow does not need to be underutilized, yet the APR spreads are still favorable. For instance, you can supply liquidity to $USDC (11.26% APY), and borrow $LUSD (4.03%):
With this strategy, you are always earning more than what is required from you to borrow and the assets you borrowed can be used to yield farm elsewhere.
One important thing to stay mindful of when taking out loans is the amount you borrow vs. your initial deposit.
To ensure the platform stays overcollateralized, the amount you can borrow is capped based on your deposit value. This cap is known as the max loan-to-value (LTV), and if you exceed it you will be liquidated.
Max LTVs can range anywhere from 40-80% depending on the volatility of the supplied asset. You’ll want to keep your LTV about 5% below the max amount.
Yield Aggregators & Yield Optimizers
An additional layer exists where users can access lucrative strategies aggregated from pools of other platforms
Yield aggregators and optimizers are two types of protocols that create a 2nd layer of yield by leveraging pools from other platforms.
As the name suggests, yield aggregators, aggregate yields from various platforms like DEXes and lending markets to provide 1-click deposit vaults. Sometimes this results in boosted yields depending on the protocol’s strategy.
Using Defillama you can find some of the top protocols for whichever chain you use to farm. For example, some prominent yield aggregators across multiple chains in DeFi are:
Though each platform is different, you should begin your search by filtering the results for stablecoin pairs. Taking Beefy Finance as an example, once you filter the stablecoin pairs, sort them by APY.
Let’s use the 14.4% MIM/USDT/USDT vault on Curve via Arbitrum as an example.
Taking a look at the vault metrics it averaged an APY of 12% over the past year which is a good sign. This indicates that we have good reason to believe we’ll achieve a double-digit yield for our deposit (if conditions remain the same).
Upon further inspection, we see that the APR is separated into vault APR and trading APR. The Vault APR stems from incentive rewards while trading APR comes from the trading fees from the DEX.
Note: TVL and trading volume fluctuate in times of volatility and affect rewards for yield farmers.
You should aim to find 1-2 vaults of choice and deposit your funds in each to diversify your investments and mitigate risk.
Special Vaults
As each day passes new products pop up that aim to leverage more advanced strategies, while simplifying UX by packaging them in 1-click deposit vaults. Some of the protocols that offer “special vaults,” include:
- Sommelier Finance
- Perpetual Protocol
- Reserve Protocol
- Ethos Reserve
- Gains Network
Sommelier Finance
Sommelier Finance is a yield aggregator on Ethereum that utilizes complex strategies to provide 1-click deposit vaults for users.
Turbo GHO Vault (28% 7-Day APY )
Turbo GHO is a multi-strategy vault that aims to give depositors the highest yield available for GHO and GHO/stable pairs.
The Turbo GHO strategy focuses on LPing on Uniswap V3 with GHO and another stablecoin like USDC, USDT, or LUSD. The strategy harvests rewards from the pool and re-invests into the position. Beyond Uniswap, the vault uses Aave to partake in looping strategies.
Real Yield USD Vault (2.7% 7-Day APY )
The primary sources of real yield exist on lending platforms like Aave and Compound, and decentralized exchanges like Uniswap. Because of this, Real Yield USD focuses on these three protocols and simultaneously allocates capital to Aave and Compound lending pools and Uniswap V3 LP pools in order to maximize yield.
One important reason that the Real Yield USD Strategy can achieve superior yields is that it can manage the complexity of optimizing Uniswap V3 tick ranges. Many other yield strategies can’t handle this complexity and therefore just stick to lending optimization. By combining lending and LPing, Real Yield USD aims to provide higher sustained yields than simple lending or LPing strategies.
Perpetual Protocol
Perpetual Protocol is a margin exchange on Optimism that allows you to long and short assets like BTC, ETH, and more with leverage. The platform is home to several 1-click deposit vaults, known as “Hot Tubs” that employ various arbitrage strategies.
Hot Tub Vaults
- Arbitrage (ETH) USDC Vault (12.59% 30-Day APY)
- Arbitrage (OP) USDC Vault (2.44% 30-Day APY)
- Arbitrage (BTC) USDC Vault (13.46% 30-Day APY)
These vaults aim to earn USDC for people who invest in them without taking on any speculative risks. They do this by selling a particular asset at a higher price and buying the same asset at a lower price on both Perp (a derivatives exchange) and regular cryptocurrency exchanges.
When individuals deposit their money into the USDC vault, their funds are combined with others to seek out profitable opportunities.
If the price of the speculative asset on Perp is lower than on another exchange, the vault sells some of these assets. At the same time, it uses perpetual swap contracts to buy an equivalent amount of the asset, maintaining a balance (delta neutrality).
After these trades are done, the USDC vault generates a guaranteed profit for depositors because of the price difference. The perpetual swap contract on Perp acts as insurance for the spot asset sold on the exchange, keeping the vault’s risk level stable.
Reserve Protocol
The Reserve Protocol is a decentralized application (dApp) available on both Ethereum and the Base Network. It empowers users to generate unique “Rtokens,” which are assets backed by a selection of ERC20 tokens.
These Rtokens can be created permissionlessly and each has its own governance structure.
With Reserve’s RToken technology, you can create a variety of assets, including yield-bearing flatcoins, stablecoins, or even LST indexes.
Here are some of the most popular Rtokens on the platform:
eUSD (APY N/A)
eUSD is a decentralized flatcoin consisting of cUSDC (Compound Finance), cUSDT (Compound Finance), saUSDC (Aave), and saUSDT (Aave).
hyUSD (5.49% APY)
hyUSD is a decentralized flatcoin consisting of mrp-aUSDT (Morpho Finance), sDAI (Gnosis), fUSDC(Flux Finance), stkcvxeUSD3CRV-f (Convex Finance) as collateral.
Ethos Reserve
Ethos Reserve (live on Optimism) is a collateralized debt position (CDP) stablecoin platform with a twist.
($ERN – 5.18 % APY)
What sets Ethos Reserve apart from the rest is its ability to utilize underlying assets in DeFi yield strategies while managing risk and liquidity in real-time. Users can provide collateral to mint $ERN, and their deposited assets are employed in a low-risk environment.
Generated yield benefits $ERN stakers. Ethos currently accepts wBTC, wETH, and OP as collateral.
Furthermore, the protocol offers interest-free loans in $ERN. Debt does not accumulate after issuance, simplifying user management and preventing bad debt accumulation.
Gains Network
Gains Network is a margin exchange allowing users to long & short assets with leverage.
Though leveraged trading and options have their place in the financial ecosystem, they are definitely on the riskier side. In response, Gains Network built a vault to serve as the counterparty for all trades placed on the platform.
gDAI (7.4% APY)
The gDAI Vault is a platform based on the ERC-4626 standard, designed to represent shares of DAI. In this vault, gDAI shares are like ownership of DAI.
The vault acts as a counterparty for all trades on the platform. When traders make money, they get their profits from the vault, and when they lose, their losses go to the vault. In return, the vault gets a portion of the trading fees. These fees are distributed among gDAI share owners, encouraging them to keep their shares in the vault.
The vault’s collateral depends on how much traders win or lose. As long as the fees earned are more than the losses paid out, gDAI share owners make a profit. This has been the case for over two years, and the protocol has safety measures in place to ensure it continues.
Conclusion
In conclusion, stablecoin yield farming offers a lucrative opportunity to earn high yields on stable assets. By leveraging the power of stablecoins and DeFi you can generate passive income while minimizing your exposure to market volatility.
Presently, DEXes and Lending Markets provide great opportunities for yield. However, as time goes on, it’s expected that yield aggregators and special vaults take over, giving users a simplified gateway to high yields.
Regardless, remember to always do your due diligence and stay informed about the risks and rewards of this exciting new field. Happy farming!
