Lending is the infrastructure of the DeFi space, and competition has always been fierce. But according to the latest data, Aave has gradually overtaken its big brothers Maker and Compound to become the industry leader this year. Due to space issues, this article will not go into the basic concepts of DeFi or Lending. Instead, we will focus on the success of Aave from the perspective of data.
Innovative in its own right
The biggest innovations of Aave, compared to protocols such as compound and maker, are the allowance of unsecured flash lending (which only allows lenders to be smart contracts as well) and the unique variable interest rate model. This interest rate model allows the user to switch between a stable rate and a variable rate (both rates change based on liquidity)
In addition to the two most basic features, Aave V2 adds several new features as follows.
Lightning loan upgrade: including one-time loan in multiple currencies, process optimization, etc. The main features are as follows.
- Collateral trading (Collateral trading): allows users to exchange collateral directly into other assets (without first redeeming, but by way of flash lending), such as collateralized LINK and UNI into AAVE.
- Repay with collateral: Allows you to repay your debt directly with collateral (partial or full repayment).
Debt tokenization. Allows the borrower to have both fixed and variable rate debt, and to switch between them at any time. It also allows the debt token to be assigned to other addresses (Native credit delegation, institutional only) once the debt is in the cold wallet. This is equivalent to introducing the concept of convertible debt.
What problem does Aave solve?
“Aave is an open-source and non-custodial protocol to earn interest on deposits and borrow assets with a variable or stable It also enables ultra-short duration, uncollateralized flash loans designed to be integrated into other products and services. It also enables ultra-short duration, uncollateralized flash loans designed to be integrated into other products and services.)
With more flexible interest rates than compound, and with flash loans specifically for smart contracts, this provides the same functionality as Money Lego, allowing Aave to do more, such as various arbitrage.
The history of the development itself
As the title says, Aave has undergone a rebirth. Its predecessor was the famous ETHLend protocol, but for various reasons, ETHLend failed and was forced to transform into Aave (“ghost” in Finnish) to compete with the then leader Compound, so let’s take a look at what went wrong with ETHLend.
First, although ETHLend is also a lending agreement, the biggest difference between ETHLend and Aave is that ETHLend uses a collateralized P2P model of lending, rather than a pool-based lending model. The biggest problem with decentralized P2P lending is that it is difficult to standardize and match interest rates and funding volumes, resulting in low liquidity and difficulty in having good price depth to meet the lending needs of different players. In addition, the lending terms of the model need to be set by the lender, which requires the platform to have strong auditing capabilities to prevent risks. Obviously, at the time, ETHLend did not meet this requirement. Then Compound came out of nowhere, and ETHLend accelerated its demise and had to go on a transformation path.
What is notable, however, is that ETHLend has not had much negative press, including news of massive defaults. I am curious about this point: although ETHLend has ECR-20 and ENS pledged, the pledged ERC-20 is not only a native on-chain asset, but also a token after offline physical tokenization. It is rare that ETHLend has no such default news. Unfortunately, due to the upgrade to Aave, I am unable to experience the ETHLend process myself. It is also difficult to obtain relevant data.
Aave Token Model
For DeFi, the token model is a very important part of the development of its mechanism. So we need to look at the token model of Aave’s own token —-AAVE.
Issue token: Aave, formerly known as lend, is repurchased and swapped at a ratio of lend:Aave 100:1.
Role: In addition to the usual governance functions such as participation in voting and setting parameters. The biggest difference is that it is an important part of the security module, the core module of Aave. Simply put, Aave will use the Aave+ETH (or pure AAVE) pledged in the module to underwrite bad debts in case of liquidation failure caused by extreme market conditions, or other unexpected situations. From a token economy perspective, it is not enough for holders to hold Aave, they need to pledge it to the underwriting module to fully capture the value. This also means that Aave requires more from its holders, not just to make money, but to truly promote the progress of the protocol, or else they will suffer great losses. To illustrate the relationship between the Aave holder and the protocol itself, let’s use an official structure chart.
Token Allocation: Because the majority of Aave is converted from the previous token Lend. The main Lend network has been taken offline, and now we can’t find how the distribution model was back then. Theoretically, the total number of Aave is 16 million (1.3 billion Lend conversions + 3 million increments), while the actual total circulation is currently below 13 million.
Aave protocol features
Since Aave V2 is already online, here we will focus on the differences between V1 and V2.
First of all, there are two new features.
Debt Tokenisation: V2’s debt certificate (borrower) no longer exists only inside the protocol, but is now a token, which means that the “debt” itself can be withdrawn to the user’s cold wallet, enabling various functions, such as multiple fixed rate and multiple variable rate positions to exist simultaneously and manage debt positions locally. Furthermore, since the token itself does not need to be tied to an internal account within the agreement, this means that the borrower can pledge someone else to help finance their loan without the need to overcollateralize themselves. Of course, this process needs to be monitored by a separate protocol to ensure the lender’s interests. This feature, together with the Flash Loan v2 upgrade to be introduced next, will make Aave itself an excellent arbitrage tool.
- Flash Loan v2: Previously, Aave was unable to use Flash Loan funds within Aave for risk control purposes, such as liquidation arbitrage, multi-currency arbitrage, etc. But V2 allows flash loan funds to be used directly in Aave. The official ways to use it are: collateral trading, repaying with collateral directly without exchange. Collateral repayment is mainly to reduce the number of transactions with the chain and reduce the fees. This is a great way to reduce the loss and the possibility of liquidation by exchanging the collateral for stable coins in extreme market. You can also directly exchange it for other assets that you are interested in, giving full play to the monetary value of time. In conjunction with debt tokenization, multiple lightning loan arbitrage can be achieved. There are also bulk lightning loans, lightning liquidation, seamless migration of liquidity from V1 to V2, etc. I will not go into details.
- Next is the optimization of some of the original functions:
The biggest point is that the logic structure has been optimized, reducing the number of on-chain authentication required when users interact with the protocol, which is conservatively estimated to be 15-20% lower, and if it can be combined with lightning credit, the fee can be reduced by 50% compared with V1 according to the official statement. Under the current conditions of high fees in Ether, it is much more attractive to users.
- Code structure optimization, support for automatic testing and regular expression verification tools. This is mainly to make the code audit less difficult, of course, this is for individuals, capable users can check the authenticity and reliability of Aave code more quickly by themselves. For auditors it just reduces the workload a little bit.
- Upgrade the token logic. This point is actually related to the first logical structure. In addition to upgrading to support EIP-2612 protocol (a protocol that supports user chain to sign on-chain certified signatures to facilitate off-chain transactions and reduce fees), the biggest change is that now all Fund data is no longer in the Lending pool core, but directly follows the aToken, which means that In other words, aToken itself has the same value as a normal token and can be used for yield farming.
- For other general technical implementations, you can refer to the white paper, which is very comprehensive.
In terms of trading activity, the token trading activity for the past 180 days for both is
The graph shows that AAVE is more active than COMP, but in terms of average daily trading volume, AAVE and COMP are similar. If we look at the NVT model, the price of the coin and the volume of transactions are related, the value of AAVE should be similar to the value of COMP. But at the moment, the price of AAVE is 20% lower than that of COMP. So to some extent AAVE is undervalued.
However, if we valued it in a different way, the result might be very different. For blockchain projects, “number of wallet addresses” is the most important indicator to judge the project. Let’s look at the difference between AAVE and COMPOUND in terms of “number of addresses with balance” and “number of active wallet addresses”. The reason why these two parameters are chosen instead of “total wallet addresses” is that the former two are more like the “number of shares held” and “number of users who have purchased products” in traditional e-commerce, while the latter is the “number of registrants”, which is more watery.
AAVE’s current ‘market cap/address’ multiple is much higher than COMP’s, and if you look at it in a traditional industry valuation way, AAVE seems to be overvalued.
Of course, there are differences in the composition of the lending business between the two, and they cannot be simply compared. So we need to analyze the other performance of the two in the secondary market.
I. Secondary Market Performance
AAVE’s current market capitalization is very exaggerated, nearly three times that of compound, while in other aspects, the two figures are not very different. Except for the concentration of chips, AAVE is more concentrated. The reason for this phenomenon is the chain reaction caused by the 5.19 event, AAVE is more secure than COMPOUND, the audit is more strict, and V2 has a way for users to reduce their losses in extreme quotes, so in the case of 5.19, the coin price plunged, AAVE itself was continuously bought by the giant whale, resulting in a high concentration. More on what the advantages of AAVE compared to COMP are later.
Secondly, since AAVE is in the form of a DAO and coin holders can participate in AAVE’s unique security module to gain revenue, we should also look at coin holders and community-related metrics to make a preliminary judgment on its growth potential.
The difference between the two coin-holding user metrics and community-related metrics is not that big. So this begs the question, why is AAVE’s market capitalization so high when all the metrics are not that different? Of course, a very important reason is that the total number of AAVE issues is 16 million, while the total number of COMP is 10 million. But this is not enough to explain that the difference in market value can be twice as large.
In order to understand why, we need to compare it with its old rival compound separately, in addition to the usual metrics that apply to all projects.
For defi-lending, TVL (total locked position.) The data in this article are on-chain data only) and total borrowings are very important indicators. They represent to some extent the market acceptance of the protocol itself, and can also give a glimpse of the market trend of the protocol (data from debank).
We can see very intuitively that there is not much difference between the two TVLs, but the main point is that AAVE V1 is still in operation, and the V1 lockup is currently around 550 m, so the total AAVE lockup should be 8.5b. But in general, the TVLs are similar, regardless of the trend and the specific values.
However, from the trend of total borrowings, it is clear that AAVE V2 is generally on a fluctuating upward trend, while COMPOUND is on a downward trend. To see where AAVE stands in the market today, we can find a comparison of compound and AAVE shares on dune as follows.
So, let’s look at the total number of users of the three. From the intotheblock data, we can see that the total number of addresses of Maker is about 254k, the total number of addresses of AAVE V1+V2 is about 246k, and the total number of addresses of compound is 472k, far more than AAVE and maker.
Of course, if we look at the total number of addresses or the total number of active addresses, compound should have the absolute advantage. But in fact, the share is about the same as AAVE, and was even overtaken by AAVE at one point. So, since active addresses don’t explain the market share, shouldn’t we look at the number of real users? As follows.
As expected, Aave’s share of de-duplicated users is over 50% of the market. And it has been growing at a high rate. And as you can see from this graph, AAVE is absorbing real users from Maker and Compound. Especially since May this year, the growth of real users of AAVE and the other two is basically the opposite trend.
Here, we have to ask a new question: Why is the growth of real users of AAVE so much higher than the other two? I think we can explain this a little bit with the new feature in AAVE V2, Lightning Loan V2, mentioned in the previous technical analysis. As I mentioned in my previous technical implementation, AAVE V2 Lightning Lending allows collateral to be traded directly. This means that in the event of an extreme market like 5.19, lenders can exchange collateral directly into stable coins to stabilize the value of their collateral and prevent liquidation by agreement, thus reducing their losses. Also, in such a market, the relevant institutions and agreements can use the new version of flash lending for carry arbitrage to capture the bear market value.
Of course, the most important point for lending agreements is the Borrowing interest rate and Lending interest rate, which are directly related to the interests of both lenders and borrowers. So, we need to look at the interest rates of Aave and Compound to see if there is a big difference. defirate shows the 30-day average data for both mainstream lending currencies as follows.
Borrowing Interest Rate:
Lending Interest Rate:
From the two graphs above, we can clearly see that Aave’s own Borrowing interest rate is much lower than Compound’s, while Lending interest rate Compound has an absolute advantage. This is also in line with what we saw above that Aave is on the rise in the borrowing business. In other words, a large portion of the new users of Aave are borrowers who borrow from the agreement. Combined with the recent bear market conditions, there is a lot of room for arbitrage for both institutions and individuals, so this scenario seems to make sense.
Also, if it were simply because of AAVE’s inherent strengths, it would reasonably have been number one a long time ago, instead of waiting until now. Compund has no underwriting security module compared to AAVE, so it has a higher bad debt rate when it encounters extreme market conditions, and in order to prevent such a high bad debt rate, Compound has set a higher collateral rate, which means a higher threshold to trigger liquidation. In order to prevent this high bad debt rate situation, Compound set a higher collateral rate, which also means a higher threshold to trigger liquidation, so the user’s collateral can easily be liquidated, causing losses, and the situation on the day of 519 also testifies to this point. From May 17 to May 23, Compound liquidated collateral totaling approximately $260 million and Aave liquidated collateral totaling approximately $310 million. At that time, Compound and Aave had $10 billion and $13 billion worth of collateralized assets, respectively. In other words, Aave liquidated 2.3% of total assets and Compound 2.6%, which may not seem like a big difference in percentage, but it is a big difference in absolute amount. In addition, compound itself does not support the contents of the lightning loan agreement, so it is difficult to do the same way as Aave to reduce losses.
The position of maker itself is different from Aave, although the official repeatedly emphasizes that it is not a central bank on the chain. But its role now is similar to that of a central bank. Due to the bear market, the market is less hot, MakerDao such a clearing penalty is larger, and yield farming way more single platform will naturally have user loss, coupled with USDC recent momentum is rapid, in the DeFi field has the seeds of catching up Dai, so this situation is not surprising.
Of course, the change in the number of users is one of the reasons for the development of AAVE. But it is not comprehensive enough to ignore the development of the business of the protocol itself. For lending platforms, total lending is an excellent indicator of the strength and market position of the platform, and for AAVE and COMPOUND and MAKER, the development of total lending for all three is shown below.
As you can see from the chart above, AAVE’s total lending volume nearly doubled in May, making it the leader. This is also a reflection of the fact that AAVE can help users cut their losses in a bear market as we analyzed above. Of course, it is undeniable that the recent bundling of AAVE and polygon marketing has increased the enthusiasm for AAVE. And the above chart is also more in line with the blockchain development path. 2020 period at the beginning of the market is still relatively bear, people in pursuit of stable returns, reduce their own risk, often choose to pledge funds to Maker to lend Dai or participate in Maker liquidity mining, which is equivalent to the traditional market, bear market people prefer to buy treasury bonds. Starting in the third quarter of 2020, a bull market emerged and there was more room for arbitrage, so people moved to higher-yielding platforms and Maker naturally lost users. This is also consistent with our perception of the laws of economics.
Also, in the process of finding data, we found a more interesting statistic, which is the large gap in the composition of the lending currency between AAVE and Compound, as follows.
The above chart also shows that AAVE supports the new defi projects better than compound, which in good market conditions will provide more arbitrage opportunities and further increase the value of AAVE itself, which explains to some extent the very rapid growth of the market share of AAVE in the first quarter of the year in a bull market. . However, the downside of this is obvious, in the event of a super extreme market, AAVE could collapse overnight. Personally, however, I think the probability of this happening is very small due to the AAVE security module.
Finally, let’s look at the data related to the volume of business transactions between the two and see if we can find any other clues.
This is a good way to see that AAVE’s recent transaction volume is growing faster with the inflow of users. COMPOUND’s volume growth is slowing down. This is also related to the total volume of both, after all, the total volume of COMPOUND is much higher than AAVE.
At this point, we have tried to explain the reason for AAVE’s surge in status, and found that the growth of his business cannot be attributed to V2 Lightning Lending.
It is very intuitive that the total amount of lightning money business is twice as much as regular lending. This proves how important Lightning Lending is to AAVE, so keep an eye on the news about Lightning Lending and AAVE’s official strategy for the future.
The pace of AAVE is very aggressive among the lending platforms, especially after the launch of V2, which makes lightning loans more powerful and also increases the risk for creditors. At the same time, the tokenization of debt turns debt into tokens to achieve the same function as convertible bonds, whether it will involve subprime lending needs to be further observed. Aave’s market performance on 5.19 is the best example of this.
In contrast, the Aave team has been very solid in terms of compliance, having obtained EMI licenses in countries with strict financial regulations like the UK (only coinbase and Revolut had such licenses before Aave). The team has also been trying to deepen cooperation with traditional financial institutions to broaden their business lines (e.g. working with RealT, a real estate tokenization platform) and improve their risk resistance. This is rare among DeFi projects that claim to be beyond “traditional”.
It’s this kind of hot outside, cold inside approach that has allowed ETHLend to be reborn and Aave to take over.
Posted by:CoinYuppie，Reprinted with attribution to:https://coinyuppie.com/beyond-maker-and-compound-what-does-aave-rely-on/
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