Maple Finance Allocation Limit
Volt Protocol is preparing to integrate with Maple Finance as our first higher yield, illiquid venue. As part of this VIP, we need to decide on an allocation limit for the platform. There is no allocation limit on the most liquid venues like Compound, but riskier or illiquid venues require it.
While the veto module is not yet complete, this post is intended as an example of the proposals the core team or VCON holders should make in the future if they expect VOLT delegates to allow their changes through. This post is WIP.
Un(der)collateralized Lending and Risk Management
Uncollateralized lending is common in tradfi and with appropriate risk management is an attractive yield source. In the most mature markets, the margins between secured and unsecured lending are quite small.
Source: Interest rates on secured and unsecured overnight lending | FRED Blog
In other cases the spread needed to compensate for the additional risk of unsecured lending is very large. The question is, who is doing the risk management? What is their track record, do they have skin in the game?
We must also recognize that on a long enough timespan, losses are inevitable in any lending market. Volt Protocol should never risk a loss greater than the surplus buffer can endure. This sets an upper bound for risk tolerance, below which market governance can act.
By allowing a portion of the PCV to enter higher risk or less liquid venues, and the majority to remain in lower risk highly liquid markets, a higher blended VOLT rate is possible while maintaining a level of risk manageable by the surplus buffer.
The Maple Opportunity
Of the yield options available within DeFi today that offer high rates (>4%) even without incentives, and which can be expected to be sustainable at scale, Maple represents one of the best risk profiles.
Given that the largest borrower represents about 20% of the outstanding debt in the Orthogonal pool and 40% in the Maven 11 Pool, while both have similar levels of first-loss pool operator capital, the Orthogonal pool is judged to be less risky. Single-borrower default is the most likely scenario for loss in a Maple pool, and is the most obvious criteria on which to base risk assessment.
Volt Protocol has a surplus buffer of about 300k. On the basis that a loss of more than half of the capital in the Orthogonal Pool is relatively unlikely, as this would represent simultaneous default of more than two of the borrowers, and there is 6%+ first loss capital, we consider it a high probability that if loss did occur in the pool (as it has once already), it will be limited to the size of the largest borrower. It is therefore within safe tolerances reasonable to set an allocation limit of 750k USDC in the pool. At 33% of the current PCV, this would support a VOLT rate of ~3.5%. At the maximum VOLT supply possible with the current surplus buffer, the rate would compress to ~2.5%.
If the largest borrower in the Orthogonal pool were to default, Volt Protocol would take a loss of 12% on its allocation to Maple, representing at this sizing a 90,000 loss which would be fully absorbed by the surplus buffer.
From a purely risk perspective, the allocation could readily be increased, but liquidity is of greater concern, and in general no more than 40% of the PCV should be committed to less than fully liquid venues until the algorithmic VOLT rate is well established in production. This is because it is uncertain and impossible to definitively determine the future VOLT rate needed to ensure liquidity is maintained at peg when holding illiquid backing.
With relatively short duration and a total allocation limit less than the liquidity that could be provided in an emergency by the Governor Multisig, a 750k allocation limit will drive a stronger VOLT rate at acceptable risk.
In all cases, the rates mentioned above assume a net interest margin of between 0.1% and 0.6% accruing to the surplus buffer, and have been rounded down accordingly.
Pool Concentration vs Borrower Concentration
We’ve considered splitting the protocol’s allocation limit 500k for the Orthogonal Pool, 250k for the Maven11 Pool. It is generally better to avoid excess concentration of the PCV in a single pool. However, the borrowers in the Maven 11 pool are all present in the Orthogonal Pool except for the largest borrower Wintermute who is responsible for ~40% of outstanding Maven 11 Pool debt. This means that the likely maximum loss in the Maven 11 Pool is higher, and diversifying may not represent a risk reduction at this time.
The community may consider approving both pools, and waiting for reduction in borrower concentration before depositing in the Maven 11 pool.