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October 27, 2023

Weekly Market Recap: October 27, 2023

Total loans outstanding held steady this past week with over 1.6mm cleared in this week's USDC and ETH auctions. Consistent with variable rate markets, USDC fixed rates broke out to new highs , with the USDC/SDAI auction clearing at 3.65% -- a record high on Term.  

Historical ETH and USDC clearing rates on Term

Variable Rate Markets

In the variable rate markets, USDC rates continue to rise with the 30-day trailing average borrow rate rising +20bps from 4.83% to 5.02%.

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Intraday volatility also picked up on the week with USDC utilization rates above 90% on four out of seven days this week and V3 borrow rates seeing intraday peaks exceeding 20%.

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Month over month, stablecoin supply is up by around +300mm across all stables, but this disguises significant rotation between tokens. USDC specifically saw net -$713mm in outflows that can be contributing to the recent rise in USDC rates, in part.

Macro Perspectives

Taking a step back from the weeds, this week we share research on long-run macro patterns in the DeFi rates market. Specifically, we find that DeFi rates tend to trade in a pro-cyclical manner. When crypto markets are bullish, DeFi rates tend to rise, and vice-versa. Below is a cross-correlation table between the (i) 6-month rolling BTC return, (ii) the effective Federal Funds rate, and (iii) the Aave V2 borrow rate from December 2020 - October 2023.

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While it may be no surprise to readers of this newsletter that Aave USDC rates bear little to no correlation to the US Federal Funds rate, what is striking is how positively correlated Aave USDC borrow rates are to the 6-month rolling return in BTC and how negatively correlated Aave rates are to Fed Funds. Indeed, the chart of the 7 day rolling Aave borrow rate against the 6 month rolling return in BTC below shows the pro-cyclical nature of DeFi rates very clearly.  


From a theoretical standpoint, this pattern is consistent with economic theory of rates in the absence of a central bank authority. When markets are bullish, investors FOMO out of stables into tokens to chase the market. In bear markets, there is a flight to safety towards stablecoins leading to an excess in stablecoin supply chasing limited yield opportunities.

Given the recent spike in BTC prices through the salient $30k resistance level on Bitcoin ETF speculation then, it is no surprise that Aave rates have spiked this past week based on these historical patterns. While it is hard to say where markets are going in the near term, with RWAs coming to market offering competitive yields and signs of a thawing in the bear market potentially leading to a stablecoin-->token rotation, the medium term outlook in DeFi rates appears skewed to the upside.  

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