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How did fixed-rate DEFI design the revenue token mechanism?

Read this article in 21 Minutes

The core of the construction of income token is the management of past earnings. We should understand the three design schemes of dividend due, regular dividend and dividend circulating investment.

Title: "Understanding the Revenue Token Design Mechanism of Defi Fixed Income Products with Principal and Interest Separation"

Kenton Prescott, founder of Sense Finance, is a former MakerDao integration engineer

Original text: Perry Wang, Link to Wen

DEFI is home to a range of income-generating activities, such as lending, pledging and negotiating dividends. Because of Ethereum's composability, users can often move from one profit-making activity to another as easily as they can swap between tokens. These income-generating assets represent a portion of the income-generating activity, each with a unique, real-time cashable floating cash flow, usually measured as annual yield (APY). Typical examples includeThe Compound cTokensandUniswap LP shares.

Earning variable interest rates is easy, but the payoff is limited. At present, users who want to hedge interest rate fluctuations to manage risk or profit from interest rate movements are underserved.

A lot of programs are actively trying to fill that gap -- these fixed-benefit deals, or those supportsFixed rateAnd deals for future earnings fall into three main camps:

,Tiered/Structured Products (Barnbridge, Saffron, 88mph)

· 零息债券贷款协议 (Notional, Yield, Hifi, UMA)

· 本息分离协议 (Pendle, Elblockquoteent, Swivel)

We will focus on principal/interest separation agreements, which break down income-producing assets into their principal and income components, which are packaged into fixed-income assets with fixed maturities.

Like tokenized interests, these assets are used to repay principal and earnings in the future. Teams have experimented with different naming mechanisms, but in this article we will use the following terms to describe them:

· Target: Fixed income assets

· Principal Token (Zero) : Tokenized interest in the underlying principal portion

· Revenue Token (YT) : Tokenized interest in the underlying revenue portion

Since the Zero and YT prices are a function of the APY of the underlying token, fixed income futures trading can become a reality. Principal token holders will benefit from a drop in the underlying APY, while yield token holders will benefit from a rise.

A principal token is similar to a zero coupon bond, delivering a single cash flow at maturity. They are simple and easy to evaluate. Yield tokens, on the other hand, act like floating rate bonds, providing an unknown cash flow at a future date. They are more complex and harder to value, but they provide fertile ground for financial innovation. This is why we see different revenue-generating token design mechanisms in the market.

In this article, we will discuss different approaches to creating claims for future returns. We've explored the trade-offs and hope to share our research as they become more common.

Below, is our quick breakdown of the revenue token design space, where we analyze existing solutions and propose a simple framework for thinking about revenue token design.

An introduction to income tokens

Revenue Token (YT) is a tokenized claim on the future cash flow of a particular asset in the chain. Let's take a direct example to illustrate this point.

The instance

Compound DAI (Cdai) as an example:

An issuer put 100 DAI worth of CDAI tokens into a principal/interest separation agreement, promising to lock them up for two months.

The principal and interest separation agreement produces:

· 100 principal tokens: 100 DAI worth of CDAI principal will be repaid after 2 months

· 100 YTs: floating rate cash flow generated by CDAI will be paid after 2 months

· The principal token is priced at a discount to the market price of 100 DAI (say $99.58) and YT is priced against the expected future interest paymentsDiscount to clinch a deal(assume $0.42).

At the time of YT casting, the cash flow may be unknown, similar to a variable rate fixed income tool, but the underlying source of the cash flow is always known, which is enough to unlock valuable use cases. For example, if the source is a money market loan, YT can implement lending rate hedging and supply rate trading. Later in this article, we will introduce the different YT designs, analyze their properties, and discuss their different use cases.

Design space

After a close observation, YT is further disassembled into two parts:

· PY (过往收益)：已兑现的现金流

· FY (未来收益)：预期的未来现金流

Note that, assuming that market expectations are static, Py does not decrease once generated, but Fy decreases over time.

This is an interactivetool, showing PY and FY as functions for the APY and time of the index.

The core of YT construction is the management of PY. We introduce three kinds of design:

· 到期分红（Drag）—PY 在到期日兑付

· 定期分红（Collect）—PY 在到期日前兑付

· 分红循环投资（Recycle）—PY 在到期日前再投资

Drag

一文读懂 DeFi 本息分离类固收产品的收益代币设计机制

Intro - these PY's of YT will pay until maturity.

Drag YT keeps PY until it is due to be paid, and YT holders get full repayment on the due date or a little later. PY and FY are calculated based on today's discounted maturities. They are similar to principal tokens with a floating redemption value attached.
Projects with Drag YT design mechanism:

Elblockquoteent

APWine

Tblockquotepus

Collect

一文读懂 DeFi 本息分离类固收产品的收益代币设计机制

YT holders can cash in PY before the maturity date.

Collect YT to distribute PY during income accumulation, that is, the holder of YT receives PY before maturity. PY is calculated at today's market value, while FY is calculated based on today's discount coefficient associated with its maturity date. They are similar to coupon bonds, but lack principal cash flow and have a near-continuous coupon flow.

Currently, there are two types of Collect YT positions:

· 被动型头寸—PY 保持不变，将表现出类似于 Drag YT 的市场走势。但是，Collect YT 的价值可能会时时有所变化，因为它们可以更快地获得现金。

· 主动型头寸—持币者主动将其 PY 再投资到更多 YT 中，会类似于 Recycle YT。

Projects adopting Collect YT design mechanism:

Pendle

Swivel

Recycle

一文读懂 DeFi 本息分离类固收产品的收益代币设计机制

Intro - this type of YT invests its PY in more YTs.

Recycle YT takes PY and buys YT at the market price (YT/underlying asset). The newly acquired YT is then allocated to the existing currency holder -- this adds more principal to the existing YT position, thereby amplifying its FY portion. A revolving investment mechanism is similar to the way active traders reinvest dividend payments back into their positions.

Market trend characteristics

To explore the market characteristics of these design mechanisms, we constructed two sensitivity measures:

· 时间敏感性—一天过去后 YT 价格的百分比变化

· 利率 (IR) 敏感性—标的预期利率 1% 变化所带来的 YT 价格的百分比变化

Like Theta and Delta in option pricing, these measures help us understand the factors that influence the price of YT.

The results of our analysis are as follows. Although the market price of these tokenized claims may be quite different from our model values, the relative valuation, that is, the return value of one set of inputs compared to another, is the correct ratio. Therefore, it is sufficient for our purposes of comparing percentage changes. Let's take a look at the results of the analysis and discuss some key insights.

The results of

· 我们将价格定义为整个 YT 头寸的价值。例如，Collect YT 头寸由持币人钱包中的两个余额组成，标的中不断增长的 PY 余额和静态的 YT 余额。

· Collect YT 由保持 PY 不变的被动型用户持有。

· 我们提出了一个基本的估值框架。它假设当前的标的利率是名义利率，连续复利，并且在到期前保持稳定。这些假设创建了每个 YT 设计独有的 PV 方程式。

Model values

Below are the results of our valuation analysis of these results in this onenotesIn real-time updates.

一文读懂 DeFi 本息分离类固收产品的收益代币设计机制

sensitivity

Results of our sensitivity analysis (from this note, we strongly recommend that you conduct the trial).

Time sensitivity

一文读懂 DeFi 本息分离类固收产品的收益代币设计机制

While this notebook has a time-sensitive versus time graph, we have provided a more intuitive graph showing the cumulative price over time.

Interest rate sensitivity

一文读懂 DeFi 本息分离类固收产品的收益代币设计机制

The key insight

When the YT series is initialized, no YT has a PY, so all YT designs have the same IR sensitivity. However, over time, PY accumulates and sensitivities begin to diverge.

Drag Yt -- Their value does not decline over time, but as their maturity date approaches, their price is less specific to FY and their IR sensitivity decreases.

Collect YT - The user's disposition of PY defines the type of Collect YT position. A passive Collect YT holder lets his PY accumulate and thus holds a position similar to Drag YT. Active YT holders, on the other hand, Recycle their PY by hand and thus hold a position similar to Recycle YT.

Recycle YT -- Resets its IR sensitivity after each cycle investment event to maintain its value in the best possible situation; However, the inefficient recycling of investment will lead to lower prices. This structure is well suited to passive traders who want to remain IR sensitive in their balances and do not want to be faced with the task of constantly finding reinvestment opportunities for their capital.

As mentioned above, there are differences in the characteristics of the market across the YT token design space. We would like to see the following user types:

Trader: They buy the YT hoping to make (full) profit on the APY rise of the underlying. There may be two types of trading preferences:

· 针对降低风险进行优化以确保回报（Drag、被动型 Collect）。

· 针对持有风险进行优化以确保回报（主动型 Collect、Recycle）。

Hedgers: They buy YT hoping to partially hedge the interest rate on loans denominated in the underlying asset.

In short, Recycle YT can realize the same effect of active Collect YT management in a passive way.

conclusion

To sum up, we discuss three different tokenization methods for future revenue: Drag, Collect and Recycle. Each design mechanism has a different way of handling PY (past returns), which affects its behavior in the market. Specifically, it affects the sensitivity of YT to time and interest rates.

But to delve deeper into these assets, we must also recognize that they are contained within a much broader investment class (fixed income), and that this discussion is only scratching the surface. Dig deeper and we find the yield curve, a measure of investor sentiment, and a new market that allows us to understand the discount rate.

This is a short introductory text, and we'd love to hear what people have to say. The space for fixed income design in Defi is huge and we're excited to continue to explore it. In addition, we plan to release more findings in the coming months. If you're interested in staying in touch or getting in touch, please join our Discord channel or get in touch with us.

Thank you (and others) for reading the draft of this article, Tom Walton-Pocock, Kurt Barry, Tom Schmidt, Jai Bhavnani, Jon Itzler, Stephen McKeon, Steven Becker, Caleb Tebbe, Kevin Zhang, Freddie Farmer, Dillon Chen, Samneet Chepal and Dan Eptzer.