Evolution of DeFi: Fixed-income Protocols (Transcript for Speech at ETH Taipei 2023)

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Good afternoon, folks. Before I start, I just wanted to tell you this slide's background is the NFT, (which) you can get at our booth just by paying a little game for the zkTrue-up; then you will get an NFT. And the booth is at the entrance building; please check it out. For those who don't know me, my name is Jerry. I'm the co-founder and CEO of the term structure. I've worked in an investment bank for 25 years, starting as a money market trader and then fixed-income trader. During the last 12 years, I managed the greater China trading desk. My responsibilities were risk management, business development, and governance. So I decided to retire last year, and because of this, I have spent some time looking at DeFi. I realized that what I've been doing in TradFi for 25 years is not a thing in DeFi, so I decided to jump into DeFi. So here I am. Let's start by looking at what we can learn from traditional finance. If we look at the financial debt market, three pillars support this market. So the first one is the money markets, foreign exchange, and fixed income. So what does the money market do? In a money market, the market participant had to borrow, and the lender, the short-term liquidity or cash management, normally used floating interest rates. And then in DeFi, we have Avi, compound maker Dow, they serve a similar function. And then, we have a foreign exchange market, a marketplace for people to exchange different currencies for payment, investments, or hedging purposes. And here in DeFi, we have Uniswap, Curve, and Balancer for similar purposes. And in the financial market, we have a huge fixed-income market, which is even bigger than the equity market. But in DeFi, we don't see any successful fixed-income protocols, like what we've seen in money markets and the exchange market. By the way, I wanted to check here - how many of you know what the term "term structure" means in financial markets? Okay, I think less than 10, less than 10%. So "term structure" means the relationship between yield and time to maturity. If you draw a picture of that relationship on a chart, you will see a curve called the yield curve. So this is a DeFinition of the term structure of interest rates. That's why we decided to do to use some structure as the main thing that we want to do. So let's take a look at the potential market size here. So fitting a market in our real life. It's over 100 trillion US dollars. With this other underlying, we have interest in market interest rate derivatives markets, which is six times bigger, right over 600 trillion. But you may think, why do we need that huge interest rate verities people need that to hedge hedge your asset and a liability on your balance sheet. But we don't have that luxury in DeFi. And people use interest rate derivatives to reduce their funding costs. Use interest rate derivatives to enhance your investment return. That's why we need the interest rate derivatives. But if you look at the DeFi, the top 10 divide. We only have a PVA of 12 billion. Even the whole divide is probably still at 12 billion. But that is actually coming from this white.so If you think of maybe 400 500 years ago, The trend for a fixed income market is just the size of the white dots. And think of what we want to do here. We want to expand that white.to. How much, like, like, 100 plus one time you think about how big we want to extend that, why not? Then how many jobs that we need to do today? So let's look at the trajectory of the market evolution. So this is a product complexity. We are here at the money market stage, the Why does come to here, but we don't have bond markets. So, interest rates forward 10 futures options, oh, up to the structure products, basically, the market is really really capped. So, we need to first build a bond market on top of the money market. By using the theory of discount factor. With these factors, we will be able to find the bond market through the proper mechanism or marketplace or system protocol, whatever we can build. And with fixed interest rates being fun, then together with money, money floating rates, no matter its overnight rates, or the interest rate by blog, we will be able to construct interest rate swaps. With the interest rate swaps building up together with bond markets, we can leverage the theory of interest rate parity to figure out the full price. The full price means that if today you want to exchange the eth into USDC one year later, what price can you trade with? What is the price, or do you want to deal with your counterparty? This is this for the price is for you to hedge future exposure. If you want to design any structure products, you always need the full price. And then, once we have a full price, we can build a term future. Perpetual future is a great invention. It allowed us to trade and to express our views on crypto. To give us the opportunity to arbitrage or speculation, right, or you want to trade based on the funding fee, but you can do that a lot of things. But you cannot hedge three months, six months, or one year with the certainty of your funding fee. So term futures serve that purpose for you to be able to hedge without cash; you just use margin to hedge through the term futures market. That's why we do interviews. And then we those market build-ups then we can leverage the Bradshaw models or other option pricing methodologies, and you will be able to find options. You may argue that we already have options markets. But if you ask any options traders or any option, the service provider platform is changing. They will tell you that it is just too small, there is no scale, and they don't have a hedging tool. Because there is no forward option traders want, they need to hedge forwards. Particularly if we do one-year options, they needed to hedge one year forward. Otherwise, they are exposed to interest rate exposure for one year. Then we can think of further structure products or real-world assets we want to package by using options, futures, forward interest rate swaps, or banks. So we need to go step by step to build this to make it scalable markets. What about the market structure? What makes a full fixed-income market? Of course, first, we need a fixed rate fixed to the maturity date. So with that, the next thing that we need to pure is a market-driven marketplace. What is a market driven marketplace? So currently, there are people in crypto who like to use automatic market makers, but that only gives you a choice of a decade or leave it. You cannot live in order to buy or sell bung tokens or to borrow or lend a yoke like preferred price. So we need to build a protocol which allows our users to decide what the what is the level they want to trade. They can leave in order for a couple of hours a couple of days and trade it, or they just cancel the order.

So when to build that and then After that, we need what is the fixing our marquee composed of composed of three interdependent markets they primary market, the secondary market, and the repurchase market we call the repo market. So, pre-market is the marketplace for you for borrowers to borrow fixed interest rates at the fixed the maturity date. So, with that, then we will know what the funding costs or potential return for the fixed interest rate. It's sort of a period, and here in DeFi when we talk about borrowing markets, the lending, of course, that we need like one of the tokens to be overcast token, and then the other tokens or the system tokens can be the borrowing underlying token. So, this is what we want to build. And then, the next is the secondary market. The secondary market is a marketplace for you to discover the price for investment tools for a certain period of time. So, people can live older than buying and selling bonds. So, they are the price discovery mechanism for people to decide where to invest with minimal risk, without credit risk or with minimum pay for risk. And then third one is the repurchase market, which is the repo market; we're talking about repo market. Actually, it's a market for the bondholders or bank token holders to use that bond token as the underlying collateral to borrow the tokens for a short period of time, this is the marketplace for people to leverage or you if you need it for cash some certain cash management for only just a few days or you need to adjust your liquidity position you use repo market with all this in place, the one more things which are very important that we need if the primary dealers so we need to have a primary dealership system where provide an incentive for primary dealers to provide the market liquidity to be the market maker for the primary market, secondary market, and the repo market. With the incentive, of course, the permit dealers, will be able to get the waiver for a fee for transaction fees, get the incentive reward to get the chance to speak about setting a policy or vote for the policy. So this is the whole thing. We're just composed of the full, fixed-income market that we wanted to build. But the look at us is where we are now. We're still not seeing any successful fixed-income protocol in DeFi. So we're thinking about the automotive market maker, which I mentioned that it's not suitable for fixed-income products. And we think of it that we're seeing some protocol use peer to the pool. Peer to the pool is also not suitable for fixed-income products. Because if you think of the similar to Aave if we have a 4 billion deposit, but we only lend out one period, the 1 billion guys pay 4%, and the 4 billion guys will get only a 1%. So this is the capital inefficiency of the pier to pool. And then we might consider whether we should go on layers one, two, or three. In layer one, it's another superficial order book because they might incur high costs. See? Right, we needed to consider that. And then what about layer two or layer three, and what scalability do we need? And we should be optimistic about ZK roll-up to peer the peer-to-peer market. And we need to consider the auction privacy. We need to consider the compatibility with other protocols on layer one. And how do we build that so this is a solution we're going to provide? This is the key to unlock DeFi. So first of all, we needed to build a thicker roll we call it a ticket to up. This is a customized ZK roll-up particularly for DeFi and to do the decal auction on fixed income products and the thicker older book for fixed income products. So with zkTrue-up, we have scalability, and we can decide the case fee. So we ensure that the user does not need to pay a gas fee when ordering. Okay. So older until they have a transaction done. So they pay a transaction fee. And then we'll catch you up to ensure we have privacy through the auction. Of course, most importantly, we need to make sure we have data availability, so we can control our roll-up frequency; whenever we will have accumulated a certain transaction volume, then we do roll-up; the auction process that we plan to do is one hour per auction. So 24 Auctions per day around the clock. So we wanted to use that and make sure that we have a data integrity data availability. So the very important fact functions that I want to mention is that even with the data availability, even in terms of torture, we shut down our website, the user can still claim their asset from Aetherium. So you don't need to worry about your fixed income tokens sitting with some structure; it is not sitting on the chain. And we have forced withdraw. So if you want to withdraw and we don't reply in a certain period of time, then you will trigger evacuation mode. So then the whole platform would just get evacuated. So you don't need to worry about the safety of your assets on time structure. And then, we do the compatibility. We use ERC-20. And to make sure that we have compatibility with other protocols. Particularly we use the zkTrue-up. So when we roll up, you directly roll up to layer one. So you can easily use it's bond token value to interact with other protocols. In addition to the Commerce ability, I also want to mention that we will build the protocol level interoperability with other protocols, for example, the borrower's position, if you lend, if you borrow sorry, if you borrow three months, at the maturity date, if you don't want to repay for now, and you want just to keep it and want to pray to order at the pedal price to borrow, you can shift your borrowing position phantom structure to for example, Aave or Compound and a lever order here. Whenever you get that, you borrow your demons or six money at the tokens at your preferred price, then you can shift your position borrowing position five Aave back to term structure. Similarly, for lenders, if you have a bunch of tokens, and you have a maturity date, or you feel the bond tokens you want to buy, you don't want to buy today, you want to take a profit from your bond token and you want to sit in the weights for a few weeks of time, and you can put your money your tokens right at the RV, and then you decided to move back to come to buy the bond tokens three months later, you can do that. So, this is what you can do. And, of course, do we use auction and the order book right? So that is the key process that for you to decide the price of your trade. It's not to take it or leave it and here on the reopen and the primary dealership. This is the system for you to to to make sure that you are comfortable with the liquidity we use reopen what reopen means in fixing our market it means you we will have the same maturity date for same token above so that for when we do an auction, you can find the same bounce that the auction an hour ago or a day before. So that the same ERC 20 token will continue to be minted on time structure. So you can use that to make sure that you have a higher value in the free float in the market. So we do that. And then, of course ,we use the primary dealership to enhance the liquidity. So we use a primary market, secondary market repo market together to unlock DeFi. So this is a solution we're going to provide. And let's look at the evolution. Okay, do we have a just pick up three angles? The first angle is the cost. In addition to the on-chain lending protocol, paying the gas fee, which can be high or low, depends on your transaction's timing. And then version two will become the layer-2 fees. But we are building the customized ZK-Rollup. As I mentioned, you don't need to pay a gas fee if you place or cancel the order. So you only pay when you have a transaction down here. pay transaction fees. The second angle is efficiency. Right? I talk about peer-to-peer versus peer-to-pool earlier. But the other efficiency is the automatic market maker versus the orderbook book. As I said, the price would not move with an AMM if there's no transaction. On the order book, the market will move, according to the market news, or whatever incentive for you to transact at a higher or lower price doesn't need we don't need a real trade to be closed to move the market. So this is another evolution of a p2p to process the current order book. The third angle is security with scalability. So initially, we have a centralized exchange that uses a custodial Wallet. So you have scalability, but as some people have concerns about the security in terms of the credit risk. Then we move on to (trade) on-chain, then we have a noncustodial wallet, that you have security, but you lose, you compromise your scalability. But this year, we have a VC version, which you maintain your noncustodial wallet, but we use zkTrue-up to ensure you have the scalability you want. So with the three angles we provide, we will just give it another evolution that we believe there will be v4, v5, v6 that continue to move on. What about the use cases? Who are the users? This is the common question that is being asked. So first of all, when we talk about fixing of the market, the guru of people who fear the most excited about is the option traders. They are looking for market, they are looking for a fixed interest rate to pay, they want to pay a fix, they want to receive a fix, but they have no market, and there's no way to do it. Now that I've seen option traders in one of the Hong Kong events on the stage, talking about options hedging, how they find the foreign market to hedge, they find this, they first trade options, and they use the option pricing to re-engineer to get a full price and to call to try to find a market to trade with them. This is just like if you are a real estate broker, you say an apartment, you use the price of the apartments to be sold. To find the price of the raw material, the bricks of Steel, 's This is what the reengineer they're doing, which is not efficient; we should go back from the beginning to the top to the bottom right. We have a money market, yes, we needed to build a fixed income. And the interest is to have a stable step up to the fourth. And then, of course, investors in the margin investors needed fixed income market to provide the fundamental investment products, and they could use repo to leverage. And miners, of course, have receivables they need to hedge; they can sell it forwards. That's for them to hedge their future receivables. And then, we have a stablecoin that ensures the use case for stablecoin use. It's a very interesting one. If you think you have a stablecoin, ensure all of their liabilities are current liabilities. You can think of an example with 100% Double liabilities being current liabilities. That's what's to forget that says VP, so they have a similar liability structure. If you look at their pension, this is not their fault. Because in diva, there is no such instrument for them to hedge. But here, with a fixed interest rate or fixed income market primary markets like income, they can be the borrower to borrow the three months six months against the ultimate six months treasury bills. But of course, it comes with a cost nine to pay an interest rate, but that gives them

the sustainability. Right. I believe the community would like to see that. And then we have crypto service providers, they provide the structure products to retailers, and then they need to package structure products to get by using the fundamental fixed income products plus the options like us, stocks your duties to add on top of that and to sell to their customers and then account receivables This is another inch interesting use case in the future that you can think of that if you want to pay $100 At the end of the year, but today, you only need to use 95 zeros to buy the bond token, which gives you 100. Next, at the end of the year, you can use that to make the payment. This is very good for the supply chain payment, where you don't need to pay today; you pay 90 days later. And with this, you can use that for the payment media, like I know some silicone insurers are working with credit card companies trying to build up the payment in real-time, like for whatever you purchase. But of course, what about the payment in arrears? Payment in reverse means that you do the payment in the future, right? So you need to do you need to find something to carry the time value with the contractor so that you can pay. And then real estate investors, of course, those real estate methods they need to hedge. So currently, we've seen some real essay products in markets. What they do is they use us DC, for example, right? They assume the DC versus the US dollar is one, one versus one forever. So that's why you don't seem to have risk. But what about if you want to use eth to invest railway? Say you can't because there is no future. There are no term futures; there is no full market for you to hedge, and you may earn 10% funded your assets. But in eth, you may lose 50% One year later. So that's why this is very important. This is the foundational infrastructure for the FBI. This is another example. From TV that, we can learn there are so many things similar to this Trevor ward to DeFine. This is on the top of the slide is the about the RMB internationalization. So cm Why is the RMB traded or used in China? We call it onshore RMB. C and H are the RMB trade that is used outside of China; we call it the offshore of cash. So people studying down to Tulum for the people are allowed to meet and by using steel, and why we're sending their steel one to the Caribbean bank, then you can take the steel niche from us, like, for example, Hong Kong outside of China. So you then they can also redeem cash rare to see and why we're here is one versus one always just like while we mean US dollar through the stablecoin issues to stablecoins, and one versus one and you can redeem one versus one. So gradually, the market use The CNH for payments. And that is false, like certain payments only because there's no other place the CH can be used. There are no investment tools; there is no demand for borrowing. There's no demand for lending similar to most people think today. Oh, like two years ago. So in DeFi, we have a compound developed, and that is also for us to use the crypto payment token right up there in cnh. They use financial payment currencies. And then gradually we've developed the fixed foreign exchange market in this foreign exchange market can and say they are not one to one anymore. So there is different friction, which makes the price difference. And then we have a curve, we have a unit swap which serves a similar purpose. And then, about 10 years later, we saw the fixing marquee in and became to emerge. So there are two tiers affecting our marketing cnh. One here is Justin Edge investing synergy bonds. Yatta is using cash to invest CNY bonds, which we call real estate investment in DeFi, but in cash in RMB markets. We have been facing calm we have beautiful markets. So suddenly, 10 years later, the market became booming. And then we have a lot of structured products in the niche. Or you can use cash to invest in y. So here we are; right now, we stop here. We need to connect to move on. There's a lot of things that there's a lot of progress that we can learn from here. Right? How do we move from the payment to investment currency? I think that's the thing we wanted to; we want to think of. And this is the last slide I have. So a brighter future. This is something we want to do beaut; of course, the community has to work with both regulators and developers to build the full DeFi ecosystem, with innovation with Blockchain infrastructure, DeFined infrastructure, or the market infrastructure. And at the end of the day, we needed to have a DeFi to be as a service, let's say, for example, as a payment medium for real-time or for future payments, and then devise a product that will you see a lot of products that we can develop from here. And then eventually, we will reach out to the financial inclusion, just now called so like a bank of the people and bank people. So this is something that the world wants to build in the future. Thank you. Thank you very much. And this is the feedback that if you have any feedback, you can provide it to us. We are happy to listen while you think. And just to quickly announce that our test net will be launched. About two weeks later. We will make an announcement soon. Thank you. Thank you very much