Can the decentralized asset management blue ocean welcome the next DeFi Summer after releasing liquidity?

The author of this article is Williamyoyo.

Since 2020, the decentralized asset management sector has not performed well in the DeFi wave. This giant sector, which has a market size close to a hundred trillion in traditional finance, seems to have just started in the DeFi space.

The lukewarm performance of DeFi asset management can be attributed to its failure to grasp the core of this DeFi wave: liquidity and capital efficiency. DeFi users are enthusiastically engaged in rounds of liquidity mining, seeking to amplify the liquidity and utilization of their funds. Early decentralized asset management protocols, such as Enzyme, TokenSets, and dHedge, provided returns to users by locking up funds, which naturally made it difficult to attract the attention of DeFi users.

Is there a solution? DeFi asset management needs to inject liquidity into products and improve capital efficiency. DePlutus has launched a new generation of asset management protocols based on the "on-chain fund atomization model," which releases liquidity for asset management products by tokenizing fund shares. Currently, Enzyme has also joined this camp. The four proactive asset management protocols—Enzyme, TokenSets, dHedge, and DePlutus—have covered the diverse needs of crypto investors. Who will stand out in the next wave of DeFi? This article will explore the potential development trends of DeFi asset management through a comparison of these four protocols.

The Blue Ocean of the DeFi Market

Asset management is a relatively quiet area in the DeFi market. On one hand, the number of protocols in this field is still in single digits; on the other hand, compared to leading DeFi projects that lock up assets worth billions of dollars, the total locked assets in the entire asset management sector are only about 300 to 500 million dollars.

However, DeFi asset management protocols, which have developed based on social investment models, are among the earliest DeFi protocols in the entire blockchain field. As one of the first projects to raise funds through token sales, the Melon protocol, the industry's first asset management project, was launched in 2017, even before the term "DeFi" was coined in the cryptocurrency space.

With the popularity of cryptocurrencies, the decline of the token fund model, and the continuous emergence of security incidents in the DeFi space, the entire industry has gradually recognized that decentralized crypto assets need to be managed in a decentralized manner to ensure asset security. On the other hand, for many years, the traditional asset management sector has been unable to change its "black box" decision-making and operational model under strict regulations and internal risk control measures, thus failing to truly ensure the safety of investors' assets.

The paradigm shift in crypto asset management and the drawbacks of centralized asset management provide historical inevitability and practical rationality for the emergence of decentralized asset management. Asset management is also the most certain area in DeFi, but it still requires patience to wait for a market explosion opportunity.

Compared to traditional centralized asset management methods like funds and trusts, DeFi asset management has numerous advantages, including openness, low thresholds, low costs, high returns, high efficiency, transparency, and greater security.

• Openness: Traditional asset management targets high-net-worth individuals, while DeFi asset management does not limit the identity of participants or the initial investment amount;
• Low Cost: Decentralized assets based on blockchain do not require luxurious offices and a large front, middle, and back office support system, significantly saving operational and intermediary costs;
• High Returns: Investment returns can be maximized for participants, improving capital return rates;
• High Efficiency: Establishing capital pools and creating fund products in DeFi asset management do not require regulatory approval, allowing investors to create funds or participate in investments instantly, an efficiency that traditional funds cannot match;
• Transparency: The transparency and security brought by blockchain and smart contracts are advantages that traditional asset management companies, which operate in a black box, cannot reach;
• Security: On-chain transactions and smart contracts ensure "no trust, only verification," with all transaction links being traceable.

Main Categories of DeFi Asset Management Protocols

Melon Pioneers Decentralized Social Investment Asset Management

As the industry's first decentralized asset management protocol based on social investment models, the Melon (now known as Enzyme) protocol is actually composed of a set of smart contracts responsible for executing specific functions: investment/redemption, asset custody, trading, fee distribution, etc., bundled together through a Hub contract. This set of smart contracts can collectively implement fund actions and enforce fund rules. It allows users to create, manage, and invest in decentralized funds composed of ETH and ERC20 tokens.

Fund managers can use their own trading strategies but cannot hedge market fluctuations through futures and options trading.

At the beginning of 2021, Enzyme launched its V2 version, which supports 150 types of assets, adds AMM pools available for investment portfolios, allows fund managers to short trade using inverse tokens provided by Synthetix, participate in external DeFi platform liquidity mining rewards through plugins, and earn position income through lending protocols to enhance performance. The tokenization of investment portfolio (Vault) shares under the protocol has been improved in Enzyme V2, better leveraging the advantages of DeFi composability.

TokenSets, launched by the Set Protocol team, is the second social investment asset management protocol to go live. It operates in a manner similar to the first-generation Enzyme, providing two types of investment portfolios: trades executed by fund managers and various robot strategy investment portfolios (offering trend trading, range-bound, etc.). It has also collaborated with DeFi Pulse to launch several cryptocurrency index funds, such as the DeFi Pulse Index Token (DPI), which have been well received in the market, highlighting TokenSets' differentiation.

As a direct competitor to Enzyme, dHedge, supported by several leading DeFi investment funds, was launched in September 2020, aiming to eliminate "middlemen" in asset management, allowing ordinary investors to become crypto hedge fund managers. The portfolios on dHEDGE are supported by the Synthetix derivatives liquidity protocol, enabling dHedge investment pools to leverage the entire Synthetix product stack, supporting not only crypto assets but also commodities like gold, stocks, and futures.

The reliance on the Synthetix ecosystem is dHedge's biggest highlight but also its greatest limitation. The types of assets that dHedge can trade depend on the available assets on Synthetix, which creates synthetic assets. The tokens on this platform are priced through Chainlink oracles, meaning that any tokens not supported by Chainlink or Synthetix cannot be supported or invested in by dHedge; additionally, Synthetix's liquidity will also limit dHedge's demand and usage.

The above three social investment asset management protocols were launched before the explosive growth of the DeFi market in 2020 and were highly anticipated. Market participants expected that the mature model of "asset management + social" could become a highlight during that year's "DeFi Summer." Unfortunately, the entire asset management sector still did not attract enough market attention, despite the two waves of liquidity mining and rising cryptocurrency prices in the first half of 2021.

The underlying reason is that the crypto market is still in its early stages. On one hand, participants can already achieve satisfactory excess returns through self-investment during market upcycles, and the demand for crypto asset management among participants still needs to be cultivated. The current traditional asset management market, with a total size close to 100 trillion dollars, actually only grew rapidly after the 2008 financial crisis. In the current trillion-dollar cryptocurrency market, asset management has not yet become a rigid demand for participants.

On the other hand, cryptocurrency participants often pursue higher asset liquidity to participate in the endless liquidity mining opportunities at any time. While investing in on-chain fund products can enjoy asset appreciation, the assets locked in the fund before the end of the investment portfolio's lock-up period also bear the opportunity cost of not being able to participate in liquidity mining.

New Entrant DePlutus Focuses on Enhancing Liquidity and Capital Efficiency

To address the low liquidity issue of asset management protocols and further expand the market space for DeFi asset management, the new generation asset management protocol DePlutus was launched on Ethereum and BSC in the first half of 2021. Compared to older asset management protocols, the new generation protocol achieves the tokenization of on-chain funds through an innovative model, which is referred to as "on-chain fund atomization" by the DePlutus protocol.

The DePlutus protocol is the first asset management protocol in the DeFi asset management field to implement dedicated token functionality for funds, leading the new trend of "on-chain fund atomization." Investors participating in any fund product under the DePlutus protocol will receive a dedicated token (DF Token) for that fund, which serves as proof of the fund's investment. Investors can transfer and trade DF Tokens instantly before the fund's lock-up period expires, enhancing asset liquidity. At the same time, DF Tokens, as hard-core assets for principal and yield redemption at maturity, can be nested with other DeFi protocols and called by protocols like AAVE for collateral, lending, and derivative trading.

The new model of on-chain fund atomization brings higher liquidity and capital utilization to investors. For example, participants in on-chain fund products under the DePlutus protocol can earn triple returns:

1. Combining their funds with the fund manager's own funds for better investment returns;
2. Instantly transferring the investment proof DF Token to earn repeated investment returns;
3. Using DF Tokens to participate in liquidity mining for the governance token PLUT to earn PLUT rewards.

Currently, the DePlutus protocol has been deployed on Ethereum and BSC, supporting the creation and operation of on-chain funds, with plans to launch liquidity mining activities for the governance token PLUT in the next step.

The new direction of on-chain fund atomization in DeFi asset management has also attracted the attention of Enzyme, whose V2 version's design concept for tokenizing investment portfolio (Vault) shares aligns with DePlutus. Subsequently, the COOK protocol also released a white paper in the first half of 2021, with its dedicated token for on-chain funds called CK Token, which functions similarly to the DF Token in the DePlutus protocol.

As of now, three DeFi asset management protocols support the tokenization of on-chain funds, and this model has become the mainstream direction in the decentralized asset management field, effectively addressing the liquidity issues of cryptocurrency funds that hinder the expansion of the DeFi asset management market, allowing on-chain fund investors to participate in various liquidity mining plans and earn additional returns.

Differentiated Advantages of Four Mainstream DeFi Social Investment Asset Management Protocols

Horizontal Comparison Chart of Four Mainstream DeFi Social Investment Asset Management Protocols

Security Remains Key: How DeFi Asset Management Upgrades Risk Control Mechanisms

Social investment asset management protocols have evolved from social investment and stock trading platforms on the internet, striving to ensure the security of clients' crypto assets. Currently, mainstream asset management protocols are technically combinations and nesting of DeFi protocols. Composability expands the application ecosystem of asset management protocols but also exposes them to potential risk vulnerabilities from other protocols. At the same time, on-chain funds using active investment strategies need to guard against human risks caused by fund managers' subjective misconduct.

Regarding protocol security, mainstream asset management protocols have undergone code audits by third-party authoritative institutions. In the face of the numerous flash loan attacks in other DeFi categories, the DePlutus protocol has also taken targeted preventive measures.

The root cause of flash loans lies in the nested calls of multiple contracts within the same transaction, manipulating prices to achieve arbitrage. In its business design, the DePlutus protocol currently prohibits external calls to certain contract functions, effectively avoiding flash loan attacks.

Each asset management protocol also employs a multi-level whitelist system to prevent trading risks while minimizing the potential for subjective misconduct by fund managers. These whitelists include:

• Whitelist of participating addresses: Enzyme can choose to limit participating addresses, which somewhat contradicts the spirit of decentralization;
• Whitelist of trading currencies: Avoids high-risk and low-liquidity cryptocurrencies;
• Whitelist of trading platforms: The DePlutus protocol also restricts the DEX platforms that can be called, eliminating low-quality projects and maximizing trading security.

Similar to traditional funds, mainstream on-chain fund products have set maximum drawdown mechanisms to guard against extreme market volatility risks. In addition, the DePlutus protocol has introduced a self-investment mechanism, requiring fund managers to contribute at least 2% of their own funds, which must be locked in the contract and cannot be misappropriated.

The layered and stringent risk control mechanisms enable asset management protocols like DePlutus to achieve full on-chain transactions, with a closed process, ensuring fund security, transaction transparency, and traceability, addressing previous issues of tokenized fund models where "big problems arise," as well as issues of security, sustainability, and scalability.

Conclusion

After missing a wave of DeFi enthusiasm, decentralized asset management is beginning to seek and improve its shortcomings. Currently, liquidity is the main constraint on the development of asset management protocols; however, in the long run, once asset management protocols achieve sufficient market scale, security will become even more critical.