For those still traumatized by March’s Black Thursday crash, Aave is about to make long collateral positions a lot less risky.
The decentralized money market has rolled out its second version, with several features that should make it more flexible and more capital efficient. The most innovative feature, though, is its new collateral swap functionality, powered by a new and improved flash-loan system.
Users who use Aave to borrow against their crypto assets are effectively taking a long position. Decentralized finance (DeFi) got its start here. People who believed in ETH but wanted to play in other markets could use MakerDAO to borrow DAI and use it to do whatever they wanted without selling their ETH. This was nice, but it kind of locked a user into that ETH position.
This new version of Aave lets a borrower change their underlying collateral in a very user-friendly, gas-efficient way without ever leaving Aave.
“You could swap your collateral from LINK to AAVE, from ETH to YFI,” Aave CEO Stani Kulechov explained over Zoom.
This is especially good if a long bet turned out to be a bad one.
“Collateral swapping can be a useful tool to avoid liquidations,” the company notes in a draft blog post about the updates. “If the price of your collateral starts to fall, for example, you can simply trade it for a stablecoin so you don’t have to worry about price fluctuations and potential liquidation.”
Of course, a user can swap collateral now but with some downsides: it would likely take several blocks which can lead to slippage, require using a couple applications and probably cost more gas. Aave’s new collateral swaps take shortcuts, powered by flash loans, the Ethereum innovation in which a borrower opens and closes a loan within one Ethereum block.
That way, collateral is now liquid. “You could practically trade it on a weekly basis or even a daily basis,” Kulechov said.
Aave will also introduce additional nuance into its governance system and flash loans generally, while optimizing gas costs across the board.
“Every time Tesla launches a new car, the batteries are better. Every time we launch a new protocol, it’s more efficient,” Kulechov said.
Aave has other major updates in this new version but they will take a little more time to prove their worth, as they need other developers to build atop them.
Credit delegation is now native to Aave in version 2, but it will need other developers to come in and build new solutions to make it a real product (or many real products).
When credit delegation was first rolled out, it was done in a high-touch, more centralized fashion, managed in house by the Aave team. With this update, Aave’s well-resourced users can now post collateral and distribute their borrowing power to others in the form of tokens.
A debt token makes it possible for one wallet to borrow against another wallet’s collateral.
A collateral owner would be ill-advised to turn those tokens over to anyone else without some kind of assurance that the debt will be repaid, however. That’s why other developers need to build systems that will provide that assurance and entice lenders to turn over their debt tokens.
“It’s basically a call to action for developers,” Kulechov said. “I think over the period of maybe 12 months this is going to create a lot of new products in DeFi.”
New Money Markets
Aave will also encourage other DeFi applications to copy it.
“For us, the big picture is that it’s scalable,” Kulechov said. The more activity that happens over Aave, the better able the protocol is to pay for itself to adapt and grow with the times.
Aave proved that it’s possible to create a public market for familiar crypto tokens to be deposited and borrowed against. Now it’s going to enable other protocols to do the same with more unique tokens. For example, Uniswap and Balancer can create markets where liquidity provider (LP) tokens can be deposited in order to borrow other assets, such as stablecoins.
Aave was launched as ETHLend, with an initial coin offering in 2017 that raised $16.2 million. This year, it migrated its LEND tokens to the AAVE governance token. The governance token controls updates to the protocol and it also controls the Aave reserve, a fund built from a small portion of interest depositors earn on the money market.
With more money markets, Aave will drive more resources into its reserve, so the protocol can keep going over time.
“Private markets are the most interesting,” Jordan Gustave, Aave’s COO told CoinDesk. These would be permissioned markets that enabled loans against tokenized assets representing real-world, regulated assets, such as equities, cash flows or real estate.
“With Aave v2 it will be much easier for anyone to create markets,” he said.
The new version of Aave will run under centralized control during the first month before governance is turned over to all Aave holders, as Aave version 1 is already.