Unlocking Endless Passive Income: The Power of Yield Arbitrage in DeFi
- Sloth Crypto
- Sep 27, 2023
- 3 min read
Updated: Sep 29, 2023
Get ready to unlock a world of passive income in the thrilling realm of DeFi! In this article, I will introduce you to a groundbreaking concept called "Yield Arbitrage" that holds the key to tapping into a continuous flow of money by exploiting market inefficiencies. Let's dive right in!
What is 'Yield Arbitrage'
At its core, Yield Arbitrage is the art of capitalizing on the difference between the interest rate of a loan and the Annual Percentage Rate (APR) you can earn through a high-yielding opportunity. Simply put, when the APR you earn from Yield Farming in DeFi exceeds the interest rate on your loan, profits start rolling in. Here is a more formal representation of the concept.
APRloan < APRyield
How does it work? It's simple! The yield you earn through Yield Farming pays off your loan faster than the interest accrues. Consequently, once you settle your loan with interest, you're left with the borrowed coins and zero debt. That's pure profit!
The Basic Blueprint
So, let's imagine you've discovered a promising yield arbitrage opportunity. How do you seize it? Here's a step-by-step breakdown to help you navigate the process:
Deposit collateral into your borrowing and lending platform.
Borrow your desired asset.
Swap that asset for the tokens you need (unless your loan is already in that token).
Deposit the tokens into a yielding protocol.
Harvest the yield and use it to pay off your loan until it's fully settled.
If you want to continue, consider re-borrowing for another iteration.
See the below flow chart for a visual of these steps!
A Real Example
Now, this blueprint can work with any protocol on any blockchain. However, let's examine a real-life example available on Pulsechain (at the time of writing) using two protocols: Phiat (an Aave fork) and Phux (a Balancer v2 fork).
In the Phiat protocol, you can borrow DAI or USDT at an APR of around 5%. Meanwhile, the LP pool "PLSX Single Sided Staking (Almost)" in the Phux dex offers an enticing yield of approximately 16.5%. That's a whopping 11.5% difference for arbitrage!
So, how do you capitalize on this opportunity? Follow these steps:
Deposit collateral (PLS in this case).
Borrow PLSX tokens.
Stake PLSX in "PLSX Single Sided Staking (Almost)" LP pool.
Sell PHUX yield for DAI or USDT.
Repeat as desired.
Here is how this strategy looks visually!
Benefits, Pros, and Cons
What's great about this opportunity is that your loan needs to be repaid in PLSX, and the "PLSX Single Sided Staking (Almost)" is mostly made up of 90% PLSX. This means that 90% of your LP position consists of PLSX, so if you ever need to repay the loan, you'll have plenty of PLSX readily available. The main risk with these loans is related to the price of PLSX increasing compared to your collateral. In such a scenario, you'll be responsible for repaying more than what you borrowed, affecting your yield.
However, since only 10% is not in PLSX, there is some risk of impermanent loss. Fortunately, this risk is significantly mitigated since 90% of the holdings are always in PLSX. Hence, you have a higher chance of repaying your loan even in the face of market volatility because you hold a substantial amount of PLSX.
If you initially borrowed stablecoins and used them to buy PLSX, your risk would mainly be if the price of PLSX decreases. Since you would have to repay your loan using stablecoins, any drop in PLSX price would increase your debt burden. Additionally, your yield would contribute less to the loan repayment, potentially resulting in a loss on the arbitrage.
Let's consider the pros and cons of embracing yield arbitrage:
Pros:
Exposure to assets with yield.
Utilization of more productive assets.
Loans in stable coins.
Enhanced velocity of money.
Cons:
Liquidation risk.
The arbitrage opportunity may close, so you must remain vigilant to avoid losses.
Volatility making your debt burden so severe you lose money
I hope you found this article captivating! If you did, don't forget to subscribe to my newsletter and receive captivating pieces like this directly in your inbox.
For further guidance in setting up a strategy like this for your portfolio, consider joining "The TreeHouse," a private Telegram group available through the "Pro" membership plan. There, I'll personally guide you through the setup process.
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