DeFi Risk Management
VeradiVerdict - Issue #156
DeFi exploits remain a huge problem: an estimated $400M have been stolen in ecosystem attacks in the past year alone. Even established, audited projects—such as Yearn.Finance and THORChain—have proven to be susceptible to hacks. While DeFi hacks remain an acute pain point for stakers, liquidity providers, and other DeFi participants, the industry’s risk mitigation tools remain limited to audits, on-chain monitoring, and primitive insurance tools.
Risk Harbor, through their automated and transparent claims process, aims to be the industry leader in protecting DeFi users’ assets. The platform launched on mainnet last month and already covers select assets from Yearn.Finance, PoolTogether, Aave, Compound, Pickle, Harvest Finance, and BarnBridge. The protocol plans to expand rapidly to integrate with protocols across many different chains by launching a comprehensive SDK.
You’ve likely heard of other DeFi insurance platforms—most notable being Nexus Mutual—which I’ve covered at length already in my post on decentralized insurance. So what sets Risk Harbor apart? There are two important advantages:
Parametric insurance. Risk Harbor algorithmically settles claims, while Nexus Mutual uses governance. In other words, Nexus Mutual underwriters manually validate each payout request and, more problematically, are financially incentivized to reject as many as possible. In fact, over 80% of Nexus Mutual’s claims have been denied. Risk Harbor, on the other hand, settles claims parametrically: if a predetermined event happens (e.g., yUSDC tokens are stolen from Yearn.Finance), policyholders receive a payout within 45 seconds, or 3 blocks. The claims process is transparent, automated, and fast.
Capital efficiency. Purchasing cover on Nexus Mutual typically starts at 2-3% per year, depending on the protocol, and only goes up from there. Risk Harbor’s underwriting process is more efficient, highly composable, and supports nearly any underwriting asset including already productive assets. As a result, they offer the industry’s lowest insurance rates, currently less than 1% per year for many protocols.
If you’re interested in learning more about why we invested in Risk Harbor and our overall thesis on DeFi insurance, be sure to read Tina’s full piece on the topic.
Instead of reinventing the wheel on why Risk Harbor is exciting for the space, I wanted to walk through the ways that DeFi users can use the protocol today.
How to protect your DeFi assets.
The first way to use Risk Harbor is obvious: to purchase cover on your DeFi positions. The process is extremely simple, especially when compared to the complex flow of other DeFi insurance front-ends.
First, take a look at Risk Harbor’s pools to find the asset that you’d like to protect. As of writing, there are 6 protected assets: yvDAI, bb_cUSDC, fUSDC, bb_amDAI, bb_amUSDC, and bb_amUSDT. Before purchasing parametric insurance from Risk Harbor, you need to already own the asset and have it in your DeFi wallet (MetaMask, WalletConnect, or Fortmatic).
Second, find the pool that you’d like to purchase cover for. As an example, let’s choose Barnbridge’s Compound USDC Junior pool. Click “Protect” and type in the number of bb_cUSD you’d like to insure.
From this screen, you can see a visualization of the underwriters’ protection; the blue lines show the premiums underwriters are charging and how much of the pool has been utilized. In addition, under “Default Ratio” you can see what the exact condition is for an insurance payout; in this case, if 1 bb_cUSDC drops below 0.5218 USDC, that qualifies as a “default.”
Third, press “Purchase” and approve any follow-on messages from your browser wallet.
Congratulations, your assets have now been algorithmically protected!
In the event you’d like to file a claim, the four-step process is outlined here. The team also recently released a “hack simulator” that allows users to simulate a protocol hack, file a claim, and receive a mock payout, all on live contracts. If you’re interested in getting a better idea of how the process and mechanism works, you can play around with the simulator here.
How to earn yield.
You can also engage Risk Harbor from the other side of the table: as an insurance underwriter. In exchange for assuming the downside risk from a payout event, underwriters earn an attractive yield on their capital. This process is similar to what was outlined above, but it’s worth explaining.
First, find the pool that you’d like to provide liquidity to. Depending on the pool you choose, you may need to deposit a different asset; for example, the fUSDC pool is underwritten in cUSDC while bb_cUSDC is underwritten in yvUSDC.
Let’s say you’d like to underwrite the bb_cUSDC pool; therefore, you need yvUSDC. The process for getting yvUSDC is simple: load your wallet with your desired amount of USDC, go to Yearn.Finance, and deposit it into the USDC pool. By the end of this process, you should have an equivalent amount of yvUSDC in your wallet.
Second, click on the “Underwrite” tab for the pool and type in the amount of liquidity you’d like to provide. In addition to the quantity, you’re also able to choose your “Price Point,” or the fee you charge insurance buyers. The higher your fees, the less likely it is that your insurance contract will be purchased; LPs are incentivized to find the utilization-to-fee “sweet spot,” similar to Uniswap V3’s concentrated liquidity provision. Once you’ve selected your parameters, click “Deposit.”
Now, you’re earning yield on the capital you’ve provided. It’s not over, though! Risk Harbor allows you to go even further by staking your underwriting position to earn additional rewards.
To do this, go to the “Stake” tab, select your position from the drop-down menu, and click “Stake.” For staking, in addition to your underwriting fees, you’ll also earn claims on the forthcoming Risk Harbor governance token via the untradable ticket token. The lower your “Price Point,” the higher the staking rewards you receive, which is another incentive for lower end-user fees.
The bottom-line: Risk Harbor is professionalizing DeFi insurance. While a number of insurance protocols already exist, Risk Harbor has created a true risk marketplace; underwriters compete to deliver optimal rates and insurance buyers can transparently discover and trade plans that are best for them. There’s a lot more in the pipeline—new protocols, types of risk covered, risk assessment models, etc.—but the protocol has already set itself apart as an industry-leading and, more importantly, user-friendly insurance solution.
- Paul V
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Hi, I’m Paul Veradittakit, a Partner at Pantera Capital, one of the oldest and largest institutional investors focused on investing in blockchain companies and cryptocurrencies. I’ve been in the industry since 2014, and the firm invests in equity, early stage token projects, and liquid cryptocurrencies on exchanges. I focus on early-stage investments and share my thoughts on what’s going on in the industry in this weekly newsletter.