Last week we revealed the permissionless nature of Sense v1, and now we’re excited to announce the upcoming launch of the Sense Protocol.

Here is the tl;dr:

• Sense Protocol will go live by next week on Ethereum Mainnet
• The first supported assets are stETH and cUSDC at 1mo and 3mo series
• We’re conducting a Guarded Launch, meaning Sense will impose limited issuance caps and support only whitelisted protocols (stETH & cTokens)
• Upon the conclusion of the Guarded Launch, Sense will become fully permissionless, allowing anyone to onboard any yield-bearing asset and create new yield primitives
• Sense has undergone four security audits: Spearbit, Kurt Barry, ABDK, and Peckshield

Why Guarded Launch?

Two inherent features of DeFi make open launches for new protocols risky. First, users can face financial consequences even from day one of live operation. Second, decentralized smart contracts can attract capital (and therefore put capital at risk) whether or not you’ve officially “launched” unless you enforce risk management with your code.

Our solution to this is to do a “Guarded Launch,” where Sense launches with self-imposed caps to reduce risk during its early days on mainnet.

Guarded Launch Plan

Because Sense is designed as permissionless infrastructure, there are limitations to the Sense team’s ability to enforce risk controls over the core contracts, even from the moment of deployment. What we can have a hand in is:

1. Which adapters we deploy ourselves
2. How we cap our own adapters
3. What we surface in the Sense Portal UI

In light of this, our guarded launch plan is to start with just two series (1mo and 3mo) for two assets (cUSDC and wstETH). To create these series, we’ll deploy adapters capable of up to 12mo term structures for each of those yield-bearing assets. But, to start, each of those adapters will have ~$100K soft caps for issuance, and the team will only sponsor and surface 1mo and 3mo series on the UI.

Once the soft caps are reached, we plan to raise them each to a hard cap of $400k (within 24 hours), as long as the protocol is behaving as expected. Hard caps will be removed once each adapter has gone through a full lifecycle (including settlement).

Going forward, we plan to whitelist different types of yield-bearing assets at a steady clip.

Any series that is sponsored through a verified adapter will be surfaced on the Sense Portal through a TBD process.

Supercharging yield

Alongside mainnet deployment, Sense will deploy its own Fuse pool, allowing users to earn extra yield and amplify their position’s risk/return.

The Fuse pool permits:

• Borrowing/Lending of PTs and their respective yield-bearing assets
• Use of PTs, yield-bearing assets, and Space AMM LP shares as collateral

The Fuse pool is a win-win for all users, improves price discovery, and unlocks leveraged liquidity within Sense’s markets.

Collateral factors in the Fuse pool will start conservatively at 50%, and be raised in the near future to collateral factors in line with other popular money market protocols.

Last-mile to mainnet

As we approach mainnet launch, we’ll continue to put final touches on the Sense Portal & documentation, and kick off a stream of Sense Twitter threads on use cases and core concepts!

If questions still exist, join us for a Discord AMA with Sense co-founders, Josh and me. Drop in your questions in our #ama discord channel, and we’ll answer as many as we can on Friday, Mar 11th, at 3 pm EST.

Join our community on Discord as we prepare for launch, and follow us on Twitter for a stream of Sense.

Sense Protocol Guarded Launch was originally published in Sense Finance on Medium, where people are continuing the conversation by highlighting and responding to this story.

At Sense, we’re working towards a future where users can always protect themselves from interest rate volatility and operate with greater capital efficiency. To make that a reality, we’re building fully transparent, on-chain, hyperscalable infrastructure that enables a flourishing ecosystem of fixed income instruments atop all yield sources and DAO cash flows.

The first step towards this future is Sense v1, a soon-to-launch decentralized fixed income protocol on Ethereum L1. Below, we unveil its permissionless architecture, a design pattern instrumental to DeFi’s success.

For those short on time, here’s a tl;dr:

• Last month, we released our public testnet on Goerli.
• We’ve expanded Sense into a permissionless infra protocol for on-chain fixed income applications, such as Yield Stripping, Tranching, and DAO bond issuance.
• Our short-term roadmap focuses on yield stripping applications.
• If you’re planning to build fixed-income instruments, please reach out to us on Discord!
• Mainnet launch will be announced very soon. Join our community on Discord as we prepare for launch, and follow us on Twitter for updates!

Building the pillars of fixed income

We originally designed Sense around the stripping mechanism, where users decompose a yield-bearing asset into its principal and yield components and package them behind two fixed-term assets, a Principal Token (PT) and a Yield Token (YT). In our development, we discovered the following problems:

1. Excess demand for fixed-rate support. Numerous protocol teams have inquired about bringing fixed rates and future yield trading to their ecosystems.
2. Lack of fixed-income public infrastructure. Although most stripping and tranche protocols (Element, Pendle, Barnbridge, Ondo, Swivel, etc) share the same core functionality, no generalized infrastructure exists for the simple action of dividing value between two or more tokens.

Solving these pain points is a prerequisite to our goal of enhancing the long tail of yield-bearing assets. Thus, instead of waiting for Sense-v2, we rolled up our sleeves, pushed application-specific logic into adapters, and generalized the Sense core to support any mechanism where two tokens receive an arbitrary share of some Target asset (e.g. yield-bearing asset).

Addressing each pain point, the flexibility and permissionlessness of Sense allow:

1. Any team with a yield-bearing token to easily enable fixed rates and future yield trading in their ecosystems
2. Fixed income teams/builders to reduce development costs & deploy faster with less risk.

In conclusion, Sense is now an ecosystem protocol for new fixed income applications, including but not limited to:

• Stripping — enables fixed rates in the underlying terms on some yield-bearing asset (like fixed yield in ETH on stETH). Related protocols include Element, Pendle, Tempus, etc.
• Tranching — enables fixed rates in non-underlying terms on some yield-bearing asset (like fixed yield in DAI on the Uniswap V2 ETH-DAI LP share). Related protocols include Barnbridge, Saffron, Ondo, etc.
• DAO debt issuances — allows DAOs to raise working capital without selling their native token. Related protocols include Porter, Solv, etc.

The Sense Core team is focused on developing the stripping ecosystem in the short term, dogfooding Sense’s infrastructure, because interest rate discovery is the foundation for all other yield primitives. Without it, we lack a baseline for the time value of money and risk in DeFi.

That said, we’re in early conversations with numerous teams, interested in building atop Sense, so if you’re looking to build a tranching / DAO bond application or to bring stripping primitives to your ecosystem, please reach out to us!

The road to permissive infrastructure

With the recent adjustment, Sense offers the components necessary to a well-functioning market for fixed income instruments, such as issuance, redemption, exchange, and in some cases, lending. As a result, DAOs and builders can focus entirely on their fixed income application, go to market faster, and benefit from Sense’s network effects.

Crucially, it’s Sense’s permissionless feature that offers the greatest value to both builders and users. In Web3, the term “permissionless” was first introduced to help differentiate public vs private blockchains. After the launch of Uniswap in 2018, however, it’s become a common design pattern in DeFi:

• Exchanges: Coinbase → Uniswap, Balancer
• Borrowing/Lending: Compound, Aave → Fuse, Euler
• Perps: Bitmex → Perpetual (Private Markets)
• Index: Bitwise → Set Protocol
• NFT Marketplaces: Opensea → Zora

Especially those serving a market long-tail, protocols built with a permissive design are rewarded with the following benefits:

1. Scale. Onboarding is not limited by protocol core teams.
2. Innovation. Less groupthink and fewer guardrails around integrations, leading to greater (parallel) experimentation.

Because of these qualities, I subscribe to the thesis that hyperstructure-like infrastructure will grow larger and have greater network effects than permissioned protocols and their centralized equivalents.

For every financial utility, I’d posit we’ll likely see a singular hyperstructure emerge: exchanges, marketplaces, lending pools, options and so on. — Jacob Horne

We’ve already begun to see the effects of permissive design. Uniswap, one of the oldest DeFi protocols, is now the “king” of ETH/USD spot trading, attracting the most volume of any centralized/decentralized crypto exchange. It has the best shot at becoming the first hyperstructure for exchange. For borrowing/lending, Rari Capital’s Fuse, known for its massive growth in TVL in 2021, is a top contender for the title.

If this future plays out, Sense will be the hyperstructure for fixed income.

Next Steps

In this post, we unveil Sense’s shift from a stripping protocol to a positive-sum infrastructure protocol for fixed income applications. We unpack the benefits of the permissionless design pattern, and I end with a future where Sense is a part of most on-chain fixed-income applications.

Mainnet launch will be announced very soon. Join our community on Discord as we prepare for launch, and follow us on Twitter for updates!

Thanks to Steven Becker, Jai Bhavnani, Kia Mosayeri, Jacob Horne, Tom Schmidt, Jordan Meyer, and the Sense core team for conversations that contributed to this post.

Disclaimer: This post is for general information purposes only. It does not constitute investment advice or a recommendation or solicitation to buy or sell any investment and should not be used in the evaluation of the merits of making any investment decision. It should not be relied upon for accounting, legal or tax advice or investment recommendations. This post reflects the current opinions of the authors and is not made on behalf of Sense Finance or its affiliates and does not necessarily reflect the opinions of Sense Finance, its affiliates or individuals associated with Sense Finance. The opinions reflected herein are subject to change without being updated.

Building for a Permissionless future was originally published in Sense Finance on Medium, where people are continuing the conversation by highlighting and responding to this story.

2022.03.10 Edit: Zeros & Claims rebranded to Principal Tokens (PTs) & Yield Tokens (YTs) https://bit.ly/3t2EcJ2

Last month, we announced our partnership with Rari Capital to build a Sense Fuse pool and permit PT & YT borrowing/lending. Today, we’re excited to share an update on Sense Space, our new AMM.

For those short on time, here is a tl;dr:

• We’ve moved away from Uniswap V3 for now because of rebalancing costs & YT price volatility.
• Our new AMM, Space, is built atop Balancer V2, implements the yieldspace invariant, and is the central market for PT / YT trading.
• Space introduces a novel accounting mechanism that permits the use of a yield-bearing quote asset, allowing it to be the safest and highest yielding zero-coupon token AMM for Liquidity Providers (LPs).
• Public testnet launch scheduled for early Jan.
• Mainnet launch scheduled for Q1. Join our community on Discord as we prepare for launch, and follow us on Twitter for updates!

At Sense, we’re focused on empowering individuals and businesses with the tools to protect themselves from interest rate volatility and take capital-efficient bets on future yields.

Several months ago, we released the Sense Protocol Litepaper, which introduced the protocol’s architecture & proposed an initial liquidity venue for PTs & YTs: Uniswap V3 markets quoted against their respective yield-bearing assets.

Below, we introduce Sense Space, a new AMM pool built on Balancer V2. The following sections share context on the valuation peg of stripping protocols, our evaluative criteria for trading venues, and an overview of Space.

We assume our readers have a baseline understanding of Sense & Yield Token (YT) Design, so if a refresher is needed, here are some resources:

• On Sense
• On Yield Token (YT) Design

If you just want to learn about Space and its use cases, skip to the Introducing Space section. Otherwise, let’s dive in:

Our north star

Sense is a debtless, stripping protocol. It allows users to deposit yield-bearing assets and issue PTs & YTs, which represent its principal and yield components, respectively. By selling off PTs or YTs after issuance, users are directly selling off distinct portions of the yield-bearing asset.

However, when held together, the combined position of PTs & YTs is equivalent to the price of the yield-bearing asset.

We can express this relationship mathematically and apply it to all fixed-income stripping protocols (Sense, Pendle, Element, Tempus, etc). It states that the price of one Principal Token (PT) plus the price of one Drag Yield Token (YT) is equivalent to the price of one yield-bearing asset (Target).

In theory, the market prices of PTs & Drag YTs should be equivalent to the Target valuation. However, whether this valuation peg is seen in practice is dependent on numerous factors, such as participation from arbitrageurs and the protocol’s support for early redemption, which allows users to combine an equal amount of PTs & YTs and withdraw the Target before maturity.

Circling back to Sense, we can apply this valuation peg to PTs and YTs, as they represent the principal and yield components of some yield-bearing asset. Although YTs use the Collect YT design and not the Drag YT design, we assume that all past yield (PY) is still held within the YT position, allowing us to use a similar, financially equivalent formula. And because Sense permits early redemption, we can be confident that the relationship will exist in practice.

With this expression, we were intrigued by an AMM that preserves this relationship for an LP position, as it would offer a competitive yield in low-volume environments. The design goal was devilishly simple: assure LPs that their net position will always be equivalent to at least the yield-bearing asset.

A blessing and a curse

After further analysis, it became clear that this AMM design is hypothetical or too complex to develop within our schedule.

The main problem is that Sense’s markets experience inter-market price discovery, meaning that the free market actively decides the price by trading against the AMM. In contrast, most price discovery of the largest crypto markets (e.g. ETH/USD) occurs on liquid off-chain centralized exchanges.

When price discovery occurs outside AMM pools, AMMs can pull in price information to adjust pool parameters and defend against impermanent loss before trades occur; this class of AMMs is called Dynamic AMMs (DAMMs).

However, LPs are subject to adverse selection without external price discovery and dynamic AMMs, meaning prices move against them on average, as seen in all constant product AMMs (e.g., UniswapV2). In these types of AMMs, LPs can avoid impermanent loss when the asset prices are mean-reverting. However, in the context of PTs & YTs, mean reversion is not guaranteed. PT prices eventually settle on a known amount of Underlying, and YT prices are highly volatile.

With all that said, inter-market price discovery is a blessing in disguise, and in fact, it’s a powerful feature, not a bug. When PTs & YTs are traded, their prices define the market interest rate at a specific point on a yield curve, allowing users to infer future interest rates and even protocol risk.

The result is expressive interest rate markets and a crystal ball into the future DeFi economy.

After realizing this, we adjusted our goals, expectations, and defined metrics for an ideal yet realistic liquidity venue for PTs & YTs.

Our Journey

For several months, we explored the design space and assessed liquidity strategies against the following metrics:

1. Principal Protection — An LP’s principal investment is fully protected in Underlying terms (e.g. protection to principal investment in DAI when market-making PTs/YTs for cDAI or f6-DAI).
2. Capital efficiency — Both the base & quote assets in a two-token market are earning yield while dormant (e.g. in between trades).
3. No-setup UX — Users can provide liquidity with a single blockchain transaction. They need not run any off-chain software or trading bots (as is required to market makers on 0x, for example).
4. Unopinionated — Permissive design that allows uninhibited free-market interest rate discovery. The interest rate implied by the PT/YT price is dynamic and is not suggested by the liquidity venue in any way. There are no assumptions of future interest rates.

Using these evaluative metrics, we explored numerous configurations, and have listed each one with their respective shortcomings:

• Underlying quoted markets — Not principally protected. Too much impermanent loss.
• Yieldspace invariant — Not capitally efficient. The quote asset is a non-yielding Underlying asset.
• Target quoted markets — Not principally protected. IL exists with upward or downward sloping yield curves.
• PT/YT market — Not principally protected. Future YT prices are unknown and too volatile.
• Uniswap V3 — Gas costs are prohibitive on L1.
• Off-chain order book — Too much operational overhead. Users need to run a market-making bot.
• Custom AMM invariants — High R&D costs.

After much tinkering & analysis, we’re excited to share the development of an AMM that checks off every evaluative metric. In the next couple of sections, we’ll dive into the high-level design, unpack its use cases, and share its backtest performance.

Introducing Space 🌌

Sense Space is a PT/Target AMM Pool built on Balancer V2. Each series has a unique Space, and all PT & YT trading goes through its liquidity. At its core, it implements the yieldspace invariant, which offers the following benefits:

1. An LPs principal investment is protected in Underlying terms if they hold until series’ maturity
2. No time-dependent impermanent loss (which exists in Underlying quoted markets)
3. Less slippage & price impact as maturity is approached

However, to improve capital efficiency atop a vanilla yieldspace implementation, Space allows LPs to deposit a yield-generating quote asset, i.e. the Target, instead of the PT’s Underlying, as was originally conceived.

To handle Target instead of Underlying, Space leverages its knowledge of the Target’s scale, or scaling factor. Let’s look at each section in its accounting logic:

1. Initialization:

To start, when Space is initialized, an initial scale (s_i) is recorded.

2. Add liquidity:

Next, when the first LP adds liquidity, their Target deposit (D_t) is multiplied by (s_i) to determine the initial total LP shares (BPT_{total}):

As is used in most AMMs, all subsequent liquidity additions will use the relative size of an LPs’ Target deposit (D_t) to mint new BTPs:

As yield accrues, a unit of Target represents an ever-increasing amount of Underlying, so for a fixed Underlying investment, LPs will need to deposit less Target if adding liquidity later in a series.

3. Swap:

Next, when a swap occurs, an amount of “virtual” Underlying (R_{underlying}) is deduced from Space’s Target reserves (R_t) and used in conjunction with the “virtual” PTs (R_{zeros}) the yieldspace invariant.

If a trader is swapping PTs for Target, Space converts the Underlying out (A_{out,underlying}) back into Target at the current scale (s_c) before transferring Target out (A_{out,target}) to the user.

4. Remove liquidity:

Finally, when an LP removes liquidity, they’re passing in their LP shares which represents a proportion of liquidity in both reserves, so there’s no conversion required.

With these simple accounting tricks, Space excludes accrued yield from the yieldspace invariant and reserves it for Liquidity Providers. These small changes make great improvements to the capital efficiency for trading zero-coupon tokens in DeFi.

Let’s judge Space against our four criteria:

1. Principal Protection — LP positions held until maturity are protected from losses to their principal investment in Underlying terms (e.g. DAI if the Target is f6-DAI).
2. Capital efficiency — Both pool assets are earning yield.
3. No-setup UX — Users can provide liquidity with a single blockchain transaction and need not run any software to constantly manage their position.
4. Unopinionated — The PT’s discount rate is market-driven. Space only ensures that it’s in parity with 1 Underlying worth of Target at maturity.

Everyone wins

Sense’s core users, PT holders, YT holders, and Liquidity Providers, all benefit from Space.

PT holders are predominantly interested in fixed rates. They’re more conservative, gas-sensitive, casual crypto users who aren’t participating in complex trading strategies. Space offers a low-cost means of swapping into and out of PT positions.

YT holders want exposure to rising future yields. They’re more sophisticated, less gas-sensitive, DeFi power users who perform due diligence and on-chain analysis to gain an edge in trading. Space consolidates liquidity into a single market, allowing for better price execution for their YTs.

Liquidity Providers (LPs) are long the floating rate, want to earn superior sustainable yields, and enable new use-cases in DeFi. Liquidity Providers stand to benefit most from Space for three reasons:

1. More volume — Similar to the benefit to YT holders, all PT & YT trading goes through a single market, leading to more volume and, therefore, more swap fees.
2. Principal protection — An LPs initial investment (in Underlying terms, w.r.t. the Target) is protected if they hold their position until maturity.
3. Superior yield — LPs earn yield through three sources: PTs, Target, and swap fees

Once Space is live, users can conveniently enter / exit from their PT, YT, or LP position within a single transaction. For details on the actions within each atomic transaction, head over to our documentation.

Backtest results

To demonstrate the better returns from Space, we backtested a hypothetical Space LP share using historical data from yieldspace-v1, the first yieldspace implementation. It uses the January 1st, 2022 series for the yieldspace LP share, and uses cDAI as the Target in Space.

In Oct 2020, both LP shares are worth 1 DAI at pool initialization. On Dec 12, 2021, they are worth:

• Yieldspace: 1.0031 DAI (~ 0.3% ROI)
• Space: 1.0538 (~ 5.38% ROI)

Conclusion

In this post, we introduced the fundamental valuation peg within stripping protocols, underscored the importance of interest rate discovery, and share the criteria used to evaluate trading venues for PTs & YTs. Moreover, we introduce Space and outline its benefits to PT holders, YT holders, and Liquidity Providers.

Over the coming weeks, we’ll incorporate user feedback from our private beta and prepare for an upcoming public testnet launch, scheduled for early Jan. To allow our audits to conclude and give users a proper testing window, our mainnet launch roadmap is adjusted to early Q1.

Join our community on Discord as we prepare for our public testnet launch, and follow us on Twitter for updates!

Thank you to those who read drafts of this post, including Tom Schmidt, Kurt Barry, Freddie Farmer, the Balancer Labs Team, and the Sense core team.

Disclaimer: This post is for general information purposes only. It does not constitute investment advice or a recommendation or solicitation to buy or sell any investment and should not be used in the evaluation of the merits of making any investment decision. It should not be relied upon for accounting, legal or tax advice or investment recommendations. This post reflects the current opinions of the authors and is not made on behalf of Sense Finance or its affiliates and does not necessarily reflect the opinions of Sense Finance, its affiliates or individuals associated with Sense Finance. The opinions reflected herein are subject to change without being updated.

Introducing Sense Space was originally published in Sense Finance on Medium, where people are continuing the conversation by highlighting and responding to this story.

2022.03.10 Edit: Zeros & Claims rebranded to Principal Tokens (PTs) & Yield Tokens (YTs) https://bit.ly/3t2EcJ2

Following the recent announcement of Sense, we’re proud to announce our partnership with Rari Capital. With technical guidance from the Rari team, we’re building a permissive onboarding factory atop Fuse to permit PT & YT borrowing/lending upon launch of the Sense Protocol. Integration with a lending facility allows users to create unique borrowing & lending positions with their assets, and contribute to improved price discovery in Sense’s interest rate markets.

This post gives a refresher on Sense, introduces the integration, and describes its downstream effects. Let’s dive in.

A primer on PTs & YTs

The Sense Protocol will allow users to hedge interest rate volatility and trade future yields on existing yield-bearing assets.

To do this, Sense enables users to decompose yield-bearing assets into their principal and yield components and package them behind two fixed-term maturing assets, a PT, and a YT. At their maturity, the principal is returned to the PT holders, whereas the YT holders collect any yield accrued on the principal. In essence, the PT holders are “lending” their principal to YT holders to invest in the yield-generating activity that the yield-bearing asset represents. In turn, YT holders pay a fixed interest rate upfront as a fee for the “loan” — in practice, this fixed interest rate is “paid” to PT holders through a discount on the PT market price.

From the Sense Protocol Litepaper, the following use cases exist:

1. Fixed-rate lending — Buying PTs and holding until maturity
2. Future yield trading — Buying PTs/YTs to short/long its implied rate

The result is a simple yet powerful enhancement to yield-bearing assets. It allows two parties to exchange interest rate risk with the convenience of purchasing PTs & YTs from the free market.

To some, purchasing PTs & YTs is just the first step towards a more flexible capital management strategy. They’ll naturally want to use PTs & YTs as money legos in other parts of DeFi via lending/borrowing or utilizing them as collateral.

Putting PTs & YTs to production

Leveraging the permissive infrastructure of Fuse, the Sense Protocol will directly own a public Fuse pool for the borrowing/lending of all PTs, YTs, and their associated yield-bearing assets.

The Sense’s Pool unlocks the following use cases:

1. Borrow PTs & YTs to short their implied rates
2. Earn extra yield by lending PTs and YTs
3. Amplify exposure with PT and YT collateral

Leaning into Sense’s permissive design philosophy, the Sense Pool automatically onboards new PTs and YTs upon series initialization.

The Sense Pool consolidates all markets in a single pool, so users can borrow one PT/YT against another PT/YT of a different yield-bearing asset, thereby generating a novel risk-return profile. As a result, they can leverage Fuse’s markets to profit from market inefficiencies or open complex hedges against unique exposures.

Positive-sum yield

The downstream effects of permissive borrowing/lending are massive. Users can express their views on rates more precisely, and their actions directly contribute to superior price discovery and efficiency across the Sense ecosystem. Moreover, the passive participant can opt to lend and earn extra yield. It’s a win-win for everyone.

What’s next?

As Sense Protocol and the integration go through multiple audits ahead of launch, we see a significant opportunity for users to become more familiar with Sense’s features and supercharge their yield positions. Borrowing and lending PTs & YTs is only just the beginning.

Over the coming weeks, we’ll be releasing new versions of the Sense Portal, announcing new features of the protocol, and inviting community members to join our upcoming private testnet. If you’re interested in joining the beta, please fill out this form.

If you are a part of the Rari or Sense communities and are interested in building atop this integration, please reach out on our social media channels below!

About Rari Capital

Rari Capital is a fully decentralized finance protocol that enables users to earn yield on their tokens. The Fuse protocol is a fully permissionless lending/borrowing system that allows anyone to create their own custom environments to earn and expand further on their crypto holdings.

Learn more about Rari Capital here: https://rari.capital

About Sense Finance

Sense Finance is an open-source software development company, building tools, products, and infrastructure for the DeFi ecosystem. It’s building the Sense Protocol, a decentralized fixed-income protocol on Ethereum.

Join our community on Discord as we prepare for our testnet launch, and follow us on Twitter for updates!

Disclaimer: This post is for general information purposes only. It does not constitute investment advice or a recommendation or solicitation to buy or sell any investment and should not be used in the evaluation of the merits of making any investment decision. It should not be relied upon for accounting, legal or tax advice or investment recommendations. This post reflects the current opinions of the authors and is not made on behalf of Sense Finance or its affiliates and does not necessarily reflect the opinions of Sense Finance, its affiliates or individuals associated with Sense Finance. The opinions reflected herein are subject to change without being updated.

Sense Finance x Rari Capital was originally published in Sense Finance on Medium, where people are continuing the conversation by highlighting and responding to this story.

To kick off a wave of releases in the run-up to our mainnet launch, we released the first iteration of the Sense Portal on Sept 21st. We were excited to deliver an improvement to existing yield dashboards, which lacked resolution and APY history.

Over the coming weeks, we’ll improve the Portal by adding new assets and incorporating feedback from the community. We’re also planning to launch our testnet where community members can interact with v1 of the Sense Protocol. To provide more context, we outline the mechanisms of yield-bearing assets, which play a fundamental role in Sense.

What are yield-bearing assets?

Tokens are a new digital primitive. They give property rights and can represent anything, such as money, art, game items, and access.

Yield-bearing assets are tokens that represent a share of some yield-generating activity, such as lending, exchange, or protocol dividends. They are the pipes of the digital economy, channeling yield to market participants for providing their capital or performing a service, and as such serve a fundamental role in DeFi.

They are equally important in Sense V1, which will allow users to hedge interest rate volatility and trade future yields on existing yield-bearing assets. In other words, users will have the flexibility to earn a fixed yield and go long or short the future interest rate of their preferred yield-bearing asset. With this newfound ability, users can plan for the future with fixed rates, easily express their view on future interest rates, and contribute to the DeFi economy in a self-sustaining way.

To best leverage the Sense protocol and other fixed-income protocols, we believe it is essential to understand the different ways yield can be generated in DeFi. Let’s dive in:

Types of Yield Sources

In DeFi, most yields are powered by: lending, exchange, staking, protocol dividends, liquidity mining, or some hybrid. Below we’ll cover each source, identify well-known examples, and mention factors that contribute to changes in yield.

Lending

Yield from lending comes from the interest that borrowers pay on their loans. Top lending protocols rely on algorithmic models to set interest rates for borrowers and lenders. Well-known assets that represent lending positions include cTokens (Compound), aTokens (Aave), and fTokens (Fuse). When lenders supply their assets to a lending market, they receive a token in return, representing a share of the lending activity in the market.

Yield, denominated in the underlying, is a function of:

• The interest rate model
• Liquidity in the lending market, i.e., utilization rate
• The appetite for leverage

Example: cUSDC

Exchange

Yield from exchange comes from exchange fees that traders pay for swapping against a pool of reserves. Well-known assets that represent exchange positions include Uniswap LP shares and Curve LP shares. When liquidity providers (LP) supply their assets to a liquidity pool, they receive an LP share in return, which represents their share of liquidity.

The yield, denominated in the LP share, is a function of:

• Exchange fee
• Trading Volume
• Market volatility
• The relative contribution of liquidity

Recent developments in the Automated Market Makers (AMM) space have added flexibility to LP positions at the expense of predictability. For example, with UniswapV3’s introduction of range orders, LPs can apply bounds to their liquidity offering between a lower and upper price bound. Range orders improve capital efficiency for the LP, but they add another important factor:

• Probability of price in range order

Staking

Staking yield comes from staking rewards issued by an L1 protocol to Validators who lock up capital for securing its network and achieving distributed consensus. For example, users can lock ETH to secure Ethereum 2.0 and earn yield for good behavior. Well-known assets that represent staking positions are called staking derivatives and include stETH (Lido). When stakers deposit their assets into staking pools, they receive a staking token in return, which represents a share of staking activity for a particular blockchain, such as ETH2.0.

The yield, denominated in the underlying, is a function of:

• The staking economics
• Total amount of underlying staked
• Market volatility

Example: stETH

Dividend

Dividend yield comes from the dividends a protocol distributes to its token holders as a reward for good governance. Rather than distributing literal dividends, protocols have explored other implementations, such as Buyback and Build and Buy&Burn models, whereby the protocol purchases the governance token from the open market. Whether the purchase is burned or used for incentive programs, the purpose is to add upward pressure to the token price due to decreased supply.

The yield, denominated in the governance token, is a function of:

• The protocol’s decision to distribute, buyback, or burn tokens
• The protocol’s profits

Liquidity Mining

Liquidity Mining (LM) yield comes from protocol rewards distributed to market participants for providing the desired service, such as lending or providing liquidity. In essence, it’s the protocol’s way of increasing the yields and incentivizing behavior in hopefully net beneficial ways to the protocol. Typically, LM rewards are denominated in the protocol’s governance token and are awarded automatically to holders of specific tokens related to the protocol. Well-known examples include COMP mining on cTokens and BAL mining on Balancer LP shares.

The yield, denominated in the governance token, is a function of:

• Emission rates
• The relative contribution of liquidity
• Governance token price

Hybrid

Hybrid yield sometimes comes from Yield-Farming structured products, which are pre-packaged strategies that farm multiple liquidity mining programs atop yield-bearing assets for extra yield, thereby “double dipping” or compounding returns. Well-known examples include Yearn Vaults and Harvest Finance.

The yield, denominated in the underlying, is a function of:

• All factors associated with the underlying yield sources
• The relative contribution of liquidity

Example: Yearn Vault v2 — WETH

Conclusion

In this post, we position yield-bearing assets as the primitives of DeFi, channeling yield to market & governance participants, and identify their sources, ranging from lending to staking activities. Moreover, we highlight their fundamental role in the Sense Protocol and its enablement of new yield primitives that will power the DeFi economy.

Over the coming weeks, we’ll be releasing new versions of the Sense Portal, announcing new features of the protocol, and inviting community members to join our upcoming private testnet. If you’re interested in joining the beta, please fill out this form, and we’ll reach out to schedule a user interview.

Join our community on Discord as we prepare for our testnet launch, and follow us on Twitter for updates!

Yield in the DeFi Economy was originally published in Sense Finance on Medium, where people are continuing the conversation by highlighting and responding to this story.

2022.03.10 Edit: Zeros & Claims rebranded to Principal Tokens (PTs) & Yield Tokens (YTs) https://bit.ly/3t2EcJ2

Drawing on a combined six years of experience at the Maker Foundation, we’ve been tinkering with smart contract primitives and are thrilled to announce our seed fundraise and share plans for Sense V1 — one of the next pieces of DeFi’s infrastructure.

The financing was led by Dragonfly, with participation from Bain Capital Ventures, Nascent, Variant, Robot Ventures, and theLAO, among others.

In addition, Sense’s advisors have had a big hand in early iterations and continue to play a key role in our development:

• Steven Becker | President & COO of Maker Foundation
• Dillon Chen | Co-founder & CEO of Commonwealth Labs
• Kurt Barry | Core Protocol Engineer at MakerDAO
• Tom Walton-Pocock | Research Partner at Fabric Ventures and ex Co-Founder & CEO of Aztec
• Ben Myers | Systematic Commodity Trader at Arrow Resources
• Freddie Farmer | Investor & ex-Head of DeFi at Wintermute

A little background

Sense was spun out from a side project started in early 2020 called “Split,” which allowed users to hedge interest rate volatility in their Maker Vaults using the Dai Savings Rate. Although the mechanism has changed, the core value proposition remains: enabling a dimension of self-directed risk management with fixed rates and future yield trading.

But the value extends beyond Maker, so Sense will interface with and enhance all existing yield-generating activities, such as lending, exchange, staking, and protocol dividends.

Over the past year, we were thrilled to see demand for various DeFi fixed-rate protocols, which confirmed our thesis that users want fixed rates and better tools for market expression. The large demand of today will be but a blip of what can be unlocked by Sense and others in the years that follow. We’re excited to pave that path forward.

Our Mission

Our mission is to build a more equitable financial system that serves everyone, promoting self-sovereignty and individual choice.

Today, most yield-bearing assets in DeFi are one-dimensional. They accrue yield at some variable rate, delivering cash flows in real-time. There’s no easy way to earn a fixed rate or trade against future yields on these assets. The existing solutions are prone to protocol insolvency, enforce capital lock-ups, or fail to serve the long tail of yield-bearing assets. In contrast, Sense offers a simple approach to adding a time dimension to existing yield-bearing assets, allowing users to empower themselves and choose a position that matches their risk tolerance.

What is Sense?

At its core, Sense Protocol introduces a practical design that allows users to decompose a yield-bearing asset into its principal and yield components and package them behind two maturing assets, a Principal Token (PT), and a Yield Token (YT). With PTs and YTs, users can safely earn/borrow at a fixed rate and trade against future yields without the risk of liquidation and capital lock-ups. Sense is permissive, allowing anyone to create new future yield markets on existing yield-bearing assets.

Because Sense permits multiple maturities, each set of PTs and YTs, or series, will trade in their own markets, allowing the community to create yield curves for each yield-bearing asset.

The result is a new layer of interconnected yield curves, offering avenues for yield management and risk displacement across the universe of yields in DeFi.

Our Investors

Tom Schmidt, General Partner at Dragonfly. Previously product @ 0x, Facebook, & Instagram.

DeFi is rapidly evolving, from simple money markets and peer-to-peer swaps to sophisticated derivatives and beyond. But if DeFi is ever going to take on traditional financial institutions, there will need to be a way for users to hedge out underlying volatility. Sense is that solution, allowing people to create infinite derivatives on infinite markets in a way that is truly permissionless. We’re excited to be backing Kenton and Josh, two DeFi veterans, who have spent the past two years thinking deeply about interest rates and lending while building Maker.

Dan Elitzer, co-founder at Nascent. Previously co-founded IDEO CoLab Ventures & MIT Bitcoin Club.

Amidst the rapid growth in new DeFi protocols, there is a shortage of teams who have the patience and ability to develop robust primitives that both users and developers can rely on. We at Nascent are excited to support the Sense team and look forward to using their tools to more precisely manage our lending and borrowing positions.

What’s next for Sense

As we develop Sense V1, we’ll release more content on its value proposition and research/analysis around fixed-income in DeFi. To learn more, visit our website, follow us on twitter, or join our discord.

We are Hiring!

The journey has just begun, and the road ahead is full of challenges, so we are on the lookout for great talent. Notably we’re looking for solidity and front-end devs, but if you’re a builder of any kind and interested in setting the standard for DeFi infrastructure, swing by our Hiring page.

Sense Finance Raises $5.2m to add a new dimension to DeFi was originally published in Sense Finance on Medium, where people are continuing the conversation by highlighting and responding to this story.

2022.03.10 Edit: Zeros rebranded to Principal Tokens (PTs) https://bit.ly/3t2EcJ2

Introduction

DeFi is home to a universe of yield-bearing activities, such as lending, staking, and protocol dividends. Due to Ethereum’s composability, moving from one to another is often as easy as swapping between tokens. These yield-bearing assets represent a share of a yield-generating activity, and each carries a unique, floating cash flow realized in real-time, commonly measured as an annual percentage yield (APY). Examples include Compound’s cTokens and Uniswap LP shares.

Earning a variable rate is simple but limited. Users looking to manage risk by hedging interest rate volatility or profit from interest rate movements are left underserved.

Numerous projects are actively working to fill this gap. These Fixed Income protocols, or those enabling fixed rates and future yield trading, fall into three main camps:

• Tranches/structured products (BarnBridge, Saffron, 88mph)
• Zero-coupon loan facilities (Notional, Yield, Hifi, UMA)
• Stripping protocols (Pendle, Element, Swivel)

Of these, we’ll be focusing on stripping protocols, which decompose yield-bearing assets into their principal and yield components, packaging them behind two fixed-term, maturing assets. Like tokenized rights, these assets redeem for the principal and yield components in the future. Teams have experimented with different naming schemes, but for this post, we’ll use the following terms to describe them:

• Target: Yield Bearing Asset
• Principal Tokens (PTs): Tokenized right to the Target’s principal component
• Yield Tokens (YTs): Tokenized right to the Target’s yield component

Because the PT and YT prices are a function of the Target’s APY, they enable future yield trading. PT holders will benefit from a fall in the Target’s APY, whereas YT holders will benefit from its rise.

PTs are like zero-coupon bonds, delivering a single cash flow at maturity. They are simple and easy to value. On the other hand, YTs are like floating rate bonds, delivering unknown cash flows at future date(s). They are more complex and harder to value, but they present fertile ground for financial innovation. This is why we see different YT designs in the market.

In this post, we’ll discuss different methods for creating a claim on future yields. We’ve explored their trade-offs and wish to share our research as they become more widespread. Below is a quick taxonomy of the YT design space where we analyze existing solutions and present a simple framework for thinking about YT design.

A Primer on YTs

YTs are a tokenized claim to future on-chain cash flows for a particular asset. Let’s get straight to an example to make this concrete.

Concrete Example

Consider Compound Dai (cDAI):

An issuer places a quantity of cDAI tokens valued at 100 DAI into a stripping protocol, committing to a 2-month lockup.

The stripping protocol produces:

• 100 PTs, which will redeem for 100 DAI worth of cDAI in 2 months
• 100 YTs, which will pay the floating-rate cash flows on that cDAI for 2 months
• PTs will price at a discount to 100 DAI (say $99.58), whereas YTs will price as the discounted expected future interest payments (say $0.42).

The cash flow may not be known when the YT is minted, similar to a variable rate fixed income instrument, but the underlying cash flow source is always known, which is enough to unlock valuable use cases. For example, if the source is money market lending, YTs enable hedging of borrow rates and trading of supply rates. In later sections, we’ll introduce different YT designs, analyze their attributes and discuss their differing use cases.

Design Space

Let’s zoom in and further break down a YT into two parts:

1. PY (Past Yield): Realized cash flows
2. FY (Future Yield): Projected future cash flows

Note that PY cannot decrease once accrued but FY will fall over time, given static market expectations.

Here’s an interactive tool showing PY and FY as a function of the Target’s APY and time.

YT construction centers around the management of PY. We introduce three designs:

• Drag — PY delivered at maturity
• Collect — PY delivered before maturity
• Recycle — PY reinvestment before maturity

Drag

tl;dr — These YTs Drag along PY until maturity.

A Drag YT keeps PY until maturity, and YT holders redeem all of it on or after maturity. Both the PY and FY are discounted back to the present day from maturity. They are similar to a PT with a floating redemption value.

Projects using Drag YTs:

• Element: https://paper.element.fi/#3-yield-tokens
• APWine: https://docs.apwine.fi/
• Tempus: https://bit.ly/2VOV3Ri

Collect

tl;dr — A holder can Collect PY before maturity.

A Collect YT distributes PY as it accrues, allowing YT holders to receive PY before maturity. PY is valued in today’s terms, whereas FY is discounted back to the present day using a discount factor associated with its time of delivery. They are similar to a coupon bond, but one that lacks a principal cash flow and has a near-continuous coupon stream.

There are two types of Collect YT positions:

• Passive positions — PY left untouched will exhibit behavior similar to Drag YTs. However, Collect YTs may differ from time to time, given they get cash sooner.
• Active positions — holders actively reinvest their PY into more YTs will emulate Recycle YTs.

Projects using Collect YTs:

• Pendle: https://docs.pendle.finance/resources/lite-paper
• Swivel: https://swivel.substack.com/p/cash-flow-instruments-pt-3-interest
• Sense: https://docs.sense.finance/litepaper/#abstract

Recycle

tl;dr — This YT Recycles its PY for more YTs.

A Recycle YT extracts PY and uses it to purchase YTs at market price (YT / Target’s Underlying). Then, the newly acquired YTs are distributed to existing holders — this adds more principal to existing YT positions, thereby amplifying their FY component. The recycling mechanism is similar to an active trader that reinvests coupon payments back into their position.

Behavior

To explore the behavior of these designs, we establish two sensitivity measures:

1. Time sensitivity — % change in a YT’s price from the passing of a single day
2. Interest rate (IR) sensitivity — % change in a YT’s price from a 1% change in the expected Target interest rate

Like theta and delta in option pricing, these measures help us understand the factors that influence a YT’s price.

The results from our analysis are below. While the market price of these tokenized claims can be very different from our modeled values, the relative valuations, ie the values returned for one set of inputs compared to another, are in correct proportion. So, it’s sufficient for our purposes here of comparing % changes. Let’s look at the results of our analysis, and afterward discuss a few key takeaways.

Results

• We define price as the value of an entire YT position. For example, a Collect position consists of two balances in the holder’s wallet, a growing PY balance in Target and a static YT balance.
• Collect YTs are held by passive users who leave their PY untouched.
• We present a rudimentary valuation framework. It assumes the current Target interest rate is nominal, compounds continuously, and is stable through maturity. These assumptions create PV equations unique to each YT design.

Modeled Prices

Below are the results from our Valuation analysis, which live in this notebook.

Sensitivities

The results from our sensitivity analysis (from this notebook, which we highly recommend experimenting with).

Time Sensitivity

Although the notebook has a graph of time sensitivity vs time, we present a more intuitive graph showcasing cumulative price change over time.

Interest Rate Sensitivity

Key Takeaways

When a YT series initializes, PY does not exist for any YT, so all YT designs have equivalent IR sensitivities. As time passes, however, PY accrues and sensitivities diverge.

Drag YTs — Do not see their value fall as a function of time, but because their price is less a component of FY as maturity approaches, they suffer from IR sensitivity decay.

Collect YTs — The user’s handling of PY defines the type of Collect YT position. Passive Collect YT holders let their PY accumulate and hold a position that is similar to Drag YTs. On the other hand, Active YT holders manually recycle their PY and hold a position emulating Recycle YTs.

Recycle YTs — Reset their IR sensitivity after each recycling event and preserve their value in the best case; however, recycling inefficiencies can lead to price decay. This construction is great for passive Traders, who want constantly-preserved IR sensitivity on their balances, and do not want to be tasked with continually finding reinvestment opportunities for their capital.

As highlighted above, there are differences in behavior across the design space. We expect to see the following user types:

Traders. They purchase YTs, looking to profit from the rise in the Target’s APY (All). Two types of preferences could exist:

1. Optimizing for diminishing risk & reward (Drag, Passive Collect).
2. Optimizing for preserved risk & reward (Active Collect, Recycle).

Hedgers. They purchase YTs, looking to partially hedge the interest rate on a loan denominated in the Target’s underlying asset (Drag, Collect)

tl;dr — Recycle YTs achieve the same benefits as Active Collect YT management, but in a passive way.

Conclusion

To summarize, we discussed three different methods for tokenizing future yield: Drag, Collect, and Recycle. Each design differs in how it handles PY, or past yield, which affects its behavior in the market. Specifically, it impacts the YT’s sensitivity to time and interest rate.

To dig deeper into these assets, though, we must also recognize that they’re embedded in a much broader investment class called Fixed Income, and that these discussions only scratch the surface. Further down this road, we find yield curves, measures of investor sentiment, and a new market that informs us about discount rates.

This was a short, introductory post, and we’d love it if people chimed in with their own thoughts. The design space for fixed income in DeFi is vast, and we’re excited to keep exploring it. In the meantime, we plan to release more findings in the coming months. If you’re interested in staying looped in or getting in touch, please join our discord or reach out to us.

Thank you to the following people (and others) who read drafts of this post, including: 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 Elitzer.

Disclaimer: This post is for general information purposes only. It does not constitute investment advice or a recommendation or solicitation to buy or sell any investment and should not be used in the evaluation of the merits of making any investment decision. It should not be relied upon for accounting, legal or tax advice or investment recommendations. This post reflects the current opinions of the authors and is not made on behalf of Sense Finance or its affiliates and does not necessarily reflect the opinions of Sense Finance, its affiliates or individuals associated with Sense Finance. The opinions reflected herein are subject to change without being updated.

Designing Yield Tokens was originally published in Sense Finance on Medium, where people are continuing the conversation by highlighting and responding to this story.

The whys and whats of Rocket Science are presented below and can be digested separately, though it’s recommended that both are read sequentially.

Why rockets?

The history of rocketry dates back to the 13th century, where most developments were for military purposes, such as the Chinese “arrows of flying fire” in the battle of Kai-Keng. It wasn’t until 1903 that the use of rockets for space exploration was conceptualized by Konstantin Tsiolkovsky, a Soviet rocket scientist.

The access to and exploration of space is the reason why rocket science is important. Let me explain below.

Since that turning point, there has been a wave of interest from government agencies and aerospace conglomerates to put things (called payloads) in space and improve one thing: the cost of putting one pound of payload into orbit. These payloads can be in the form of satellites, more rockets, human-residing spacecraft, etc. Although there are various orbit types, we will focus on Low Earth Orbit (LEO), which is the most common orbit reached. Currently, the Falcon 9 can deliver a payload to LEO with a cost-to-weight ratio of about $1235/pound. By improving this ratio through the development of spaceflight technology, many of the following benefits and dreams can be realized:

Profitable endeavors

• Resource mining — “trillion dollar industry”
• Telecommunications — GPS, internet for all, cell service, etc
• Suborbital transportation — anywhere on earth in less than an hour
• Agriculture — Earth-imaging and crop state monitoring

Entertainment

• Space tourism — get to space for $200k-$300k or a slingshot around the moon
• Human exploration — manned spaceflight past the moon.
• Planet/Moon colonization — Moon / Mars base

Science

• Satellite exploration — survey probe sent to planets
• GIS — social sciences and geosciences (like meteorology)
• Research in space

What about rockets?

Now, it’s time to get into some basic concepts (with some equations) that constitute the fundamentals of Rocket Science.

All forms of propulsion, and thus rocketry, starts with Newton’s Third Law: For every action, there is an equal and opposite reaction. For example, if I throw a ball with some mass at some acceleration, it simultaneously applies a force on me, causing me to move backward. We’ll come back to this.

Thrust Equation

If you took an introductory physics course, I’m sure you’d remember Newton’s second law:

The product of mass and its acceleration is the force required to move that mass at its acceleration. The units of this equation are Newtons or kg*m/s². As long as the resulting units are consistent with Newtons, then any combination of variables are mathematically correct. However, the combination must also be physically coherent to be useful. For example, it’s hard to imagine the physics of two variables of kg*m and 1/s², respectively.

There are different types of rockets, but the most common is a chemical rocket engine. In this type of engine, propellants are combusted through a high energy exothermic reaction in a combustion chamber; this means that heat and pressure in the chamber are increased as a result of the reaction. Next, the hot gases that make up the combustion byproducts are accelerated through a nozzle. Let’s try to apply Newton’s second law to this system.

To start, imagine a plane located at the nozzle exit and perpendicular to the combustion chamber’s walls. Let’s introduce a new variable called mass flow rate, in units of kg/s. Conceptually, it is the amount of mass that travels through this plane on a per second basis.

Some may wonder what the speed of this mass is as it travels through this plane. We have a variable for that too! It is called exit velocity, in units of m/s, which is the velocity of the combustion byproducts at the exit plane.

What if we multiply these two terms? The mass flow rate times the exit velocity of the hot gases. The product of the units is kg/s * m/s = Newtons or the units of force. The result of this evaluation is a simplified version of the Thrust equation.

Back to Newton’s Third law: For every action, there is an equal and opposite reaction. Therefore, if we point the rocket nozzle and thus force in one direction, then an equal and opposite force will be applied, causing the rocket to move, upwards, and hopefully into orbit.

Final Note

The industry is concerned with the following two objectives: 1) reliably producing a lower cost, lower weight rocket that 2) maximizes the product of these terms. Sounds simple, but it’s kind of hard. NASA has conducted and will continue to explore experiments which investigate ways to optimize the latter objective. With the advancement in production, private companies can now stand on the shoulders of NASA’s accomplishments and focus on the former objective.

With companies like SpaceX, Blue Origin, and Virgin Galactic, the next race to low-cost spaceflight can come to fruition as we look to the stars for our future.

Thanks to Tekil Persaud and Royce Prescott for feedback on this post.