For all the talk of DeFi changing the financial world forever, the reality is that decentralized finance is largely a closed system. For the most part, cryptocurrency owners put up their crypto as collateral for loans in dollar-pegged stablecoins, then use them to invest in DeFi projects.
The closed loop opened a little Tuesday (Dec. 28) when the Aave lending protocol announced a deal with decentralized financing protocol Centrifuge that will allow small and medium enterprises (SMEs) to access the liquidity available in cryptocurrency markets, by tokenizing real-world assets like freight invoices, bridge loans, trade receivables and the like, and then use those tokens as collateral.
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“The RWA Market bridges the regulated world of TradFi to the trustless world of DeFi,” Centrifuge developer End Labs’ Co-founder Lucas Vogelsang said. “It’s a huge step for the Aave Protocol.”
Investors have locked more than $12 billion into Aave lending pools, making it the third-largest DeFi project by total value locked (TVA).
Building a bridge between real-world businesses and DeFi capital, the new product “will allow Aave depositors to earn yield against stable, uncorrelated real-world collateral and will allow Centrifuge Issuers to stake collateral and borrow from the market … across a wide variety of asset classes, ranging from bridge loans to inventory and revenue-based financing,” said End Labs CEO Jason Jones. The company also works with Maker, the largest DeFi protocol.
Real World, Real Complexity
While the new “TradFi” loans represent the first steps in what could be a huge expansion of DeFi’s influence, they also offer a lot more complexity from a crypto lender’s perspective.
In a traditional DeFi loan the collateral offered is a cryptocurrency. And while they are highly volatile, at least the lender (in theory) understands the basics of the crypto market and the particular cryptocurrency accepted as collateral.
Taking a look at the collateral categories offered by Centrifuge makes very clear that a whole new skill set is needed to effectively judge risk.
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There are seven categories of collateral, offering different interest rates:
Real estate bridge loans 4%
Revenue-based financing 5%
Branded inventory financing 5%
Cargo and freight forwarding invoices 6%
Trade receivables 7%
Fintech debt financing 8.5%
Emerging market consumer loans 10%
Beyond that, entering the real world brings with it a whole lot of institutions that crypto investors may not be familiar with, such as lawyers and…
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