Cash Farming for Gronks
Defi platforms such as Anchor (Terra) and Saber (Solana) offer huge APRs, sometimes upwards of 20% on stablecoin assets. Is this too good to be true? An ING savings account is presently paying 1.35% per annum. A share portfolio might return 7% in a good year, and you are still running the risk of a GFC or similar black swan event. What is the downside?
Like, complete loss of your whole stack, actually.
A few months ago I got hacked in the cashio hack on saber (solana). I was lucky enough to have my funds returned. Some people on their discord channel had lost $250kUSD, 500kUSD of real life savings (not crypto gains) and unfortunately, most people will not think about risk management until they are rekt for eye-watering sums.
This article covers risk management as it is the most important area to be aware of if you want to make a profit cash farming.
There are a few main ways where I see losses occuring in cash farms:
Stablecoin losing it's peg, whether that's by way of an oracle hack, loss of real world asset backing or "other";
Attack on the smart contract of the platform, say saber;
Attack on the "bridge" mechanism, which is not technically part of the platform but part of the infrastructure for cross-chain transfer (say wormhole);
Some other brain melting black swan event that nobody could ever have forseen.
I'll just post this here.
In my opinion, USDC and BUSD have the lowest risk of de-peg. USDC is run by coinbase and BUSD by binance, so I would see farming with any of these tokens as an investment in Binance or Coinbase so to speak. Their backing is cash or close to cash, meaning US treasuries or maybe a bit of high quality commercial paper.
USDT is run by Bitfinex and is riskier than USDC or BUSD. Bitfinex operates out of the British Virgin Islands and is not really compliant with any KYC or regulations. Bitfinex cannot be accessed from the US without a VPN. People have been questioning tether's backing for years and there was a proven loss of backing a few years ago which was quickly rectified. Unfortunately, Tether uses commercial paper for backing and has not disclosed to any auditors the composition of this commercial paper. It could be complete junk for all we know. However Bitfinex has been around for a long time and has built up a lot of trust in the crypto community due to time in the market.
Below these three we have the more established algorithmic stablecoins that are partially backed or not at all. DAI and UST appear to be partially backed. These are riskier than the above three.
Below the more established algorithmic stablecoins we have the wild west. Coins like cashio (RIP), FEI, USDH. Tread very carefully. FEI just got hacked a few days ago I noticed. These are best left alone in my opinion.
Basic Risk Management (for Gronks)
It is important to note that a 4 pool of USDC, USDT, UST and DAI has 4x the risk of a single pool. This is because of the arbitrage bots (they call them "MEV" bots, meaning "maximum extractable value). This means that if only one of those coins fails, you lose everything in the pool because the MEV bots will instantly arbitrage the pool so you end up with 100% of the worthless coin.
Bearing all this in mind, you need to make sure that your total stack is not concentrated in a single coin, bearing in mind the total makeup of your LP tokens. If USDC is a common coin in all your LPs, depeg of USDC will mean loss of your whole stack.
I like to divide the whole stack across the four main coins USDC, USDT, BUSD and UST making sure there is no dependency between either of them. That way, in the event of a stablecoin de-peg, you would lose 25% of your stack max. Given APRs are in the 20%s, it would take you one year to recover from that. Just hope you only get hacked once every 5 years.
Within the 4 stablecoins as mentioned above I would further divide each stack into 2-4 smaller pools so that if a single pool gets hit with a smart contract hack or other attack, that is only a small portion of your stack in total.
I think you need to be making a return of over 10% APR to cover the insane risk you are taking in this game. This is just my opinion though.
Decentralised insurers such as Nexus Mutual or Insur-Ace now offer cover for smart contract and de-peg risk. It is impossible to cover every risk and if you do so, it will just make it harder for you to make a profit. Therefore insurance should be used in combination with the risk management procedures mentioned above.
BUSD depeg insurance is about 1% of portfolio size per annum.
Saber smart contract risk is about 3%.
USDT depeg insurance about 1.5%.
Anchor / UST depeg / smart contract bundle is the most expensive at 6%.
You need to be making over 15% APR to make it worthwhile. Many farms fluctuate over time. You need to decide what risks to wear and what risks to cover. The insurance is not foolproof but it is probably better than nothing.
The business model for the insurer is decentralised, as anyone can deposit funds into the underwriters pool to earn a return on their crypto (in the form of insurance premiums). They call this "underwriting mining" and this is another way to earn pretty decent return on your stablecoins. USDT is presently paying 15% APR.
If there are a lot of claims, the depositors can lose their capital. Insur-ace do not insure their own pools against smart contract risk. This could be a "double whammy".
I have chatted to the Insur-ace community on telegram and they say that for every $1 they cover, they hold 50c in the pools. They say this is quite conservative and other insurers are operating far less conservative ratios. Research needs to be done in this area before taking the plunge.
"Claims assessors" decide who gets paid and there is a potential conflict of interest between people who are claims assessors and also underwriting miners. I asked Insur-ace this question on telegram and they said:
Very interesting question
They have an internal review process
They are looking at using an autonomous DAO as a dispute resolution system.
From my observances there is almost an insurmountable conflict of interest between an insurer and a customer in the event of a claim. Many claims are resolved by courts in the real world.
If they say no, you probably don't really have a remedy through an independent channel.
This stuff is pretty bleeding edge.
Cross Chain Bridges
Many platforms such as Saber give you an opportunity to earn yield by depositing LPs that use a native asset and a "bridged" one. This is to facilitate people using platforms like wormhole or allbridge to transfer their crypto assets cross-chain.
Wormhole got hacked for $325million on 2 Feb 2022. The hackers drained the ethereum backing the wETH token. However wormhole covered the loss.
I am more likely to deposit my assets into wormhole bridges given that the VCs backing the project covered the loss.
It is important to note that if the underlying bridge is attacked, the insurance, say Saber smart contract usually excludes "bridges" as they operate external to the defi platform. Likewise, depeg insurance will not cover you for this. You would need to take out separate smart contract insurance for the bridging protocol itself.
Turbocharge that APR!!
Most platforms I use I dollar cost average my rewards for Bitcoin. If I then hold these rewards through the BTC halving cycle I might go 2x or 3x on these rewards making this 40%-60% APR, without any price volatility on the capital amounts. Remember the 20% APR you see on the farm itself is pretty academic.
If you manage to make any decent profits on BTC or alts, you can dump more cash into the cash farms then start DCA'ing your yield back into crypto.
I write these articles mainly to help others and make sure I do my own due diligence, so please hit me up in the Booyah Traders telegram channel if you have any questions about any of these topics.
If you want to know what a "gronk" is just ask any of the Australians on the thread.