Web 3.0 has given the ability to anyone to be their own bank and Asset Manager, increased transparency and control over investment decisions, and introduced composability among DeFi projects, enabling investors to connect “money Legos” to create previously unimaginable financial products. However, outside the cryptosphere, not everyone can or wants to be their own Asset Manager. Decentralized Asset Management solves for this, keeping the best elements of Web 3.0 while allowing the delegation of investment decisions that an investor may not be well-informed enough to make. This way, decentralized Asset Management opens up access to sophisticated financial products and crypto investing to anyone, regardless of who they are.
Over the last year, starting around the DeFi summer of 2020, there has been an explosion in DeFi projects being launched and reaching significant levels of Total Value Locked (TVL) in a short period of time. More importantly, DeFi projects have built similar financial instruments and products to those in traditional finance, such as asset exchanges, lending, leverage, margin trading, and fixed income, with a twist. Web 3.0 has introduced three key advantages for financial services for individuals and organizations alike: Anyone can be their own personal bank and Asset Manager; there is increased transparency and control on how investment decisions are made; and composability allows investors unimaginable ways to use their financial products. Let’s tackle these one by one.
First, Web 3.0, and specifically DeFi projects, have given the ability to anyone to be their own bank and Asset Manager. At a basic level, you have the ability to hold custody of your own assets (i.e. deposits), lend your assets for interest, use your assets as collateral to take out loans, trade your assets, and even provide liquidity into trading pools, ensuring assets are not sitting idle, all without the need for a bank or other form of intermediary. At a more advanced level, new forms of structured products are emerging in which you can combine various financial instruments, such as lending and trading, to make outsize returns and generate significant wealth. At the same time, investors have full control over how they invest, for example having no minimum ticket size or having the ability to set fees in a liquidity pool, and when they invest, with no lock-ups giving the ability to buy, sell, or redeem anytime.
Second, Web 3.0 enables levels of transparency and control in the investment decision-making process not available in traditional finance. Smart contracts enable full transparency on how value and money flows through the system, so anyone has the ability to check and verify the flows of value. Additionally, many DeFi projects reward their users with governance tokens. This gives users the ability to both propose and vote on key decisions, such as product features (e.g. how liquidity providers should be rewarded, or what tokens to include in an index, among others).
Third, composability in DeFi opens up previously unimaginable ways for investors to put their assets and financial products to work. While in traditional finance investing in a financial product, such as an ETF, stops at the buy & hold stage, in DeFi investors can buy financial products, such as an index, and use them like money Legos, which they can use in other DeFi protocols to earn yield, or on which they can exercise governance rights of the underlying tokens in the index, opening up almost limitless ways investors can use financial products.
However, not everyone can, knows how, or even wants to become their own asset manager. Some DeFi projects, while providing innovative approaches to wealth creation, can be significantly difficult to use, even for crypto investors. Investors outside of the cryptosphere, whether individual or institutional, are unlikely to have high levels of awareness of Web 3.0 investment products beyond BTC and ETH, and are likely to have limited time and resources to dedicate to do appropriate due diligence on which projects’ tokens to buy or to conduct complex transactions within the DeFi ecosystem. These types of investors need someone to delegate these investment decisions to, while still retaining key elements of Web 3.0 that are not found in traditional finance, such as transparency and composability.
This is where decentralized Asset Management comes in. New protocols, DApps, and DAOs have risen to mimic the Asset Management industry off-chain, providing investors the ability to delegate investment decisions and execution, while retaining key elements of Web 3.0, such as self-custody of assets, transparency of how value is created and transferred within these financial products, control over how and when investors can enter and exit, and the power to make governance decisions.
For example, an investor who wants to have exposure to DeFi but who has limited familiarity with the segment would normally, like in most asset classes, have to conduct significant amounts of research and due diligence on each project to understand the investment potential and risks associated. By the time the investor is sufficiently informed to make an investment decision, the investment opportunity may no longer be there. With decentralized Asset Management, a whole suite of products and infrastructure is available for the investor to delegate the decisions and executions, capture the upside and manage risk.
This is where products such as the DeFi Pulse Index (DPI), ETH 2x Flexible Leverage Index (ETH2x-FLI), Balanced Crypto Pie (BCP), DEXTF Safe Fund (XTF.YYYBOX) or Exchange Index Fund (XTF.000EXC) come in. These are structured products created by a group of protocols, DApps, DAOs, and fund managers that are building a decentralized Asset Management ecosystem. This ecosystem enables significant levels of delegation for investors.
Take the DeFi Pulse Index as an example, akin to a DeFi ETF, is the product that the investor buys, and is governed by a set of clear rules aimed to give investors exposure to top DeFi projects (based on market capitalization) while managing risk (ensuring the projects are legitimate and have traction in the market). The index rebalances its composition dynamically as the criteria metrics for each DeFi token changes. Another example is the ETH2x-FLI, in which a smart contract automatically enables investors to leverage up to 2x on USDC to gain increased exposure to ETH, while having safeguards in place to minimize risks such as slippage and liquidation risk.
Designing and creating these products are decentralized organizations (DAOs), such as Index Coop (creators of DPI), PieDAO (creators of BCP), and individual fund managers (creators of XTF.YYYBOX and XTF.000EXC on DEXTF), which enable investors outside the cryptosphere to rely on the expertise of others to create these investment products, without the need to educate themselves about designing or executing complex transactions.
Another piece of the decentralized Asset Management puzzle are data and analytics providers, such as DeFi Pulse, which provides data and analysis that enables rebalancing of the DeFi Pulse Index, so the investor does not have to manually assess the metrics of each individual DeFi token.
Lastly, there is the infrastructure that enables investors to buy, sell or redeem the index tokens, and for fund managers to create such index tokens, such as Set Protocol, which provides the platform, tech, and services for index tokens to be created, issued, redeemed, and sold, DEXTF, which enables fund managers to create crypto token indices, and decentralized exchanges such as Uniswap, where investors can buy the index tokens.
While decentralized Asset Management allows delegation of investment decisions and execution, investors can still enjoy many of the benefits of Web 3.0 that are typically not available in traditional Asset Management.
For example, investors not only have self-custody of index tokens, but they can also choose to redeem the tokens within an index and directly own the tokens themselves. Investors also enjoy the flexibility, regardless of who they are, to buy and sell any amount of these tokens, whenever they choose to.
Additionally, there is increased transparency on three fronts, compared to traditional Asset Management: First, on the composition of these products; second, on the decision-making process to design and create these products; and third, on the execution of these products, as everything is available for anyone to see in the smart contract.
Lastly, composability in DeFi means that investors are not limited to buying and holding these indices, they can use these indices to earn yield on other DeFi protocols or they can vote on governance decisions for the underlying tokens in the basket, greatly increasing the utility that investors can get from their holdings, which is not usually the case in traditional finance.
Decentralized Asset Management is a game changer when it comes to democratizing access both to crypto investments and to sophisticated financial products, as it provides the right level of investment decision delegation combined with the benefits of Web 3.0 such as self-custody and flexibility, transparency and composability, enabling investors outside the cryptosphere deeper access to crypto assets, and providing access to anyone to sophisticated financial products to generate wealth that in traditional Asset Management are typically reserved for high net worth individuals.
As decentralized Asset Management evolves and becomes more sophisticated, enabling complex financial engineering, and broadening the scope to traditional asset classes through synthetic assets, we believe there is a significant opportunity to tap into mainstream investors and capture some of the $100 trillion in AUM in traditional Asset Management.
Note: The article above is not financial advice and investors should do their own research prior to buying any of the products mentioned in this article.