What Is Yearn Finance? The DeFi Gateway Everyone Is Talking About

Some $650 million has poured into DeFi’s Yearn.Finance since mid-August. DeFi is driving most of the excitement in crypto right now, and Yearn and its YFI token are central to the latest buzz.

That said, Yearn has a lot of moving parts and the platform is growing all the time, making it intimidating for rookie yield farmers to grok.

Most people who answer this question will say it’s a community-driven robo-adviser for yield (and it is), but the problem with this answer is that a DeFi n00b will go to the site and see all these options on the front page: Vaults, Earn, Zap, APR and Cover and wonder where to start.

So, really, Yearn.Finance is a portal to various DeFi products. And given that DeFi now has nearly $8 billion in crypto assets committed to it, mainstream traders could start rolling in any day. If that happens, a front door might end up being very valuable. 

“The unifying goal of all Yearn products is to create this simple intuitive interface to all of DeFi,” Jesse Walden of Variant Fund told CoinDesk in a phone call. 

Read more: What Is Yield Farming? The Rocket Fuel of DeFi, Explained

The one that generates the lion’s share of the conversation is Vaults, but Yearn has also built user interfaces to DeFi products from other teams, in order to make life easier for active traders.

For example, Zap is an access point for Zapper.fi (which simplifies taking complex positions) and Cover is an access point to Nexus Mutual (which allows users to hedge smart-contract risk on Yearn). APR is just a page that gives visitors one place to see the returns from depositing various assets into various products. Other products are currently being tested.

But Yearn.Finance, of course, also provides access to its own products, and that’s what people are buzzing about. 

YFI is the governance token for Yearn.

It really grabbed people’s attention because Yearn’s creator, Andre Cronje, didn’t set any aside for himself. He gave all of it to folks who had deposits in certain key liquidity pools that benefited the project. 

There are only 30,000 YFI and they have all been distributed now. According to the YFI documents, more can be minted by governance.

Tarun Chitra of the Gauntlet Network (and also a member of Yearn’s nine-person multisig, the equivalent of a board of directors) does not believe that will happen, though. “I think the ‘no inflation’ meme is here to stay,” he said. “I think there are other ways for the system to monetize.”

So to get YFI now, users just need to buy it.

Read more: Troll Token? Why DeFi Yield Farmers Are Now All About YFI

To participate in governance, YFI holders have to stake their YFI; once they cast a vote they are stuck for three days. That’s the downside, but the upside is they will earn a small fee for voting. 

In a Telegram message to CoinDesk, Cronje described this as a “dividend, not a yield strategy.”

Yearn charges a 5% fee on a certain portion of a certain kind of withdrawal. It’s not really worth going into, but it’s used to maintain a $500,000 treasury. Usually, it has more than this, though, and when it does it distributes the excess to YFI holders. The amount a user is likely to earn from a vote seems to be rather unpredictable and right now it’s not substantial.

Chitra says that a lot of DeFi projects are thinking about how much to pay out to governance token holders and how much to set aside for future needs. As that gets sorted out, he expects yield on YFI to go up.

Notably, YFI only pays dividends to holders who vote their tokens in governance.

On Earn, users can deposit any of several stablecoins: DAI, USDC, USDT, TUSD, sUSD and wBTC. Then, Yearn will look for the DeFi platforms on which they can earn the highest yield. 

In the early days of yield farming, this is what Cronje built the site to do: move stablecoins around to the best place for growing them as conditions changed.

As it grew, Earn had to become more sophisticated.

Because of its size, Earn can’t simply look at the highest yield pool on Compound or Aave (two lending protocols that provide yield to stablecoin holders). If Earn dumped its holdings all in one place it would dramatically change the yield. So Yearn’s Earn product has to try to estimate the optimal allocation – and that changes constantly because other users are going in and out of these things directly.

So each time someone deposits or withdraws from Earn, it also rebalances to optimize the yield for the whole pool. 

This is the product that really has users excited, the part that best captures the description of “robo-adviser for yield.”

“Users enter pools in order to put their existing assets to work and earn yields that they likely would not be able to generate themselves,” Spencer Noon of DTC Capital told CoinDesk over Signal. “While these strategies aim to minimize risk, users need to understand there is essentially no way to escape risks related to smart contracts, liquidation (when leverage is used), and oracles.”

Read more: Yearn.Finance’s New Vault Leverages DeFi ‘Triforce’: ETH, MakerDAO and Curve

Vaults let users hold an asset they like while also earning yield on it (denominated in that asset, so they can grow it). For instance, people who love LINK can earn LINK by letting Yearn put it to work.

Users deposit the asset somewhere and then Yearn borrows stablecoins against the asset. The stablecoins are then used to seek yield-farming opportunities, constantly rebalancing as opportunities shift.

Crucially, though, as gains get realized Yearn converts them back to the underlying token. So someone who deposited DAI that ended up earning some yield in COMP will get all their gains back in DAI, because the COMP will be converted.

With assets like LINK and now ETH, this has additional implications. It means that the vaults are regularly buying LINK and ETH off the market and locking them up in the Yearn LP pools, diminishing the liquid supply.

There are lots of people who are long ETH out there who would like to earn yield-farming gains but don’t want to sell their ETH. That’s what makes the yETH pool so attractive.

As of this writing, Yearn’s stats page shows 212,930 ETH (well, wrapped ether (WETH)) in the yETH pool. That’s up from 132,000 shortly after launch.

The user gets a token back that represents their share of the liquidity pool. 

It is one of the most basic characteristics of yield farming and one of the hardest for those who haven’t done it to understand. It’s powerful, but it’s confusing.

When people deposit money into a savings account, they don’t get anything back except maybe a paper receipt, which isn’t good for anything. The money is just there in the account. Deposits in traditional banks are redeemed with identities.

People naturally assume that products like Yearn work the same as banks but they don’t. We first wrote about this with the DeFi money market, Compound, and its v2, and then when we described the v2 for automated market maker Uniswap and its pools, but Yearn also does it.

Read more: Uniswap V2 Launches With More Token-Swap Pairs, Oracle Service, Flash Loans

Deposits yield tokens and anyone – or any smart contract – who holds those tokens can redeem them.

This is arguably the core of DeFi.

That means depositors of DAI on Compound get cDAI in return; on Aave they get aDAI; on Yearn they get yDAI. That token represents the deposit – and at any time it can be redeemed for the deposit plus any gains.

This is powerful because those tokens can be traded or deposited elsewhere. These secondary tokens are the essence of composability.

Yearn started with stablecoins but now it has begun building out vaults for other assets. It started with LINK and aLINK (the tokens from depositing LINK on Aave), and then ETH came next. More are likely.

There are always more places to put tokens in DeFi. 

Stablecoins are quite popular to deposit on Yearn because users can more easily understand how much money they are making. Deposits of USDC, for example, yield yUSDC, which is a certificate of deposit for the stablecoin but it’s not itself a stablecoin.

Yearn wanted to make it easy for holders of these CDs to move between its various stablecoin pools, so Yearn worked with the automated market maker (AMM) Curve to set up a pool of yUSDC, yDAI, yTUSD and yUSDT.

But it doesn’t stop there: They can deposit yCRV on Yearn and get yUSD (sometimes known as yyCRV).

That’s the rub – and this is where less-sophisticated investors should be cautious.

Walden tweeted about how he would like to see more “plain English” explanations of what Vaults are doing, specifically this new yETH vault.

“If you look at how these vaults generate that yield, there’s very little information,” Walden said. “If you aren’t auditing the code yourself, you are just trusting the community to have enough eyes on it to make sure all the bugs are shallow.”

Feel the Yearn shows very rough descriptions of the strategy for each vault with a link to the smart contract address, but that doesn’t really cut it at this stage.

But just glancing there, here’s an example: The YFI pool goes into C.R.E.A.M., a money-market member of the new Weird DeFi crowd (with a Wu-Tang twist). 

Read more: Yearn, YAM and the Rise of Crypto’s ‘Weird DeFi’ Moment

It’s fair to ask whether many users really know that’s where their YFI is going to earn a small additional return.

Such descriptions would be a starting place for a user to decide whether or not they could handle the risk.

Chitra said this question of helping users better understand risk is a key reason his company is involved. 

“Right now there’s not really a good way unless you’re doing a lot of analysis on it,” Chitra said. Even looking at the code only tells part of the story, because people also need to understand market conditions. Making this more legible is something he said his company and the Yearn community are working very hard on. 

On some level, though, Yearn’s obtuseness is its own kind of consumer protection. The normies aren’t in yet. It’s a community of DeFi believers. “If you’re in fringe finance, you’re in fringe finance. You are probably not the average user,” Chitra said.

Yearn has a governance forum on its site just like most DeFi projects do. It has a very active community with lots of proposals.

A big part of the governance process is people posting strategies for different vaults. Users post them and if they get voted through by YFI holders, they get put into action. A portion of those profits goes to users. 

Read more: Crypto VC Firm Assesses the ‘State of Blockchain Governance’

Chitra said he thinks Yearn has one of the most active governance communities. “The cool thing about it is it’s brought together people from all walks,” he said. Chitra serves a member of the Yearn multisig, sharing some additional executive powers temporarily approved by the community, in order to help the project move quickly and grow.

Users excited to participate in governance might want to look at Boardroom, which recently integrated YFI. It’s a portal for participation across many projects in this space.

Yearn is starting to build its own set of insurance systems, relying on Nexus Mutual.

A recent Medium post described how users can earn returns on USDC for insuring the yUSD contract.

Regulators would probably wave their hands here and say it’s not insurance it’s a hedge. Fine. Whatever word folks want to use. The gist is this: Anyone who wants to mitigate risk on the yUSD pool can drop some USDC in this cover pool and get paid if the pool gets drained maliciously.

YDAO is for people who are so long Yearn that they are willing to give YFI away in order to fund developers with good ideas for the space, inspired by MolochDAO, which funds improvements for Ethereum itself. Putting in 0.1 YFI will give the user one share in YDAO. YDAO will then consider proposals for funding projects that would benefit the Yearn community and shareholders can vote on whether to fund them or not. 

Read more: Ethereum’s DAOs Continue to Gain Momentum

Another way people are expressing their views about how Yearn should work? They are making forks. “There are already are a bunch of competitors. A bunch of Yearn forks have a few hundred million in them,” Chitra said, such as YFII, Wifey and even the fraudulent YYFI.

In DeFi’s early days, he said, people spent a lot of time “overthinking how these things might work.” But in 2020, “We now have the tools for people to do these experiments.”

After that, Chitra added, comes the hard part: “From there we can figure out how to make it more usable to the general audience.” 

Maybe. And the complexity of liquidity mining is why.

When a DeFi project rewards users with some new token for lending it funds, that’s called liquidity mining. Users “mine” a new token by supplying assets rather than supply cryptographic work, as with bitcoin.

We explored this somewhat in the early days of COMP, but just to say it simply: liquidity mining usually distributes tokens at a fixed rate per block, divided proportionally between deposits held in a given block. So each depositor gets less as more deposits go in. This is why it’s hard to predict yield for a hot liquidity mining project.

Read more: Some Numbers That Show Why Yield Farming COMP Is So Seductive

So Yearn gives regular people access to advanced strategies. That’s why Chitra said it is sort of like Betterment or Wealthfront, mobile-friendly web 2.0 companies that help people have easy access to strong investment strategies.

DTC Capital’s Noon said the value proposition will remain even after “these ridiculously high yields” fade.

“DeFi is poised to create considerable value long-term,” he told CoinDesk. “Compared to CeFi, DeFi will always have a lower cost of capital and be less rent-seeking in equilibrium – this is undeniably a recipe for mass adoption.”