As defined by the Bank of International Settlements (BIS), decentralised finance – or ‘DeFi’ – is a “form of intermediation in crypto markets”, with automated blockchain protocols supporting the trade, lending and investment of cryptoassets.
However, the BIS takes care to note: “There is a ‘decentralisation illusion’ in DeFi, since the need for governance makes some level of centralisation inevitable and structural aspects of the system lead to a concentration of power. If DeFi were to become widespread, its vulnerabilities might undermine financial stability.”
Sounds like the sort of thing that corporate treasurers should avoid, right?
Well, apparently not – because a crop of voguish fintech firms is angling to engage treasurers as committed crypto investors via DeFi platforms touted as user-friendly gateways to competitive, high-yield returns. Examples include:
1. Meow According to a November statement, this self-styled “future of modern, compliant investing for corporate treasuries” recently launched with $5m of investment from a range of VC backers in the tech arena. In providing cash-based access to DeFi protocols for crypto yield, Meow says, it serves as a bridge between institutional investors and the market, eliminating the need for crypto wallets.
2. DeFi Technologies Established in 1986 as Routemaster Capital Inc, this business recently underwent a full-scale reinvention, adopting its new name in February. As the firm explains on its website, its treasury-focused offering enables corporates “to allocate part of their treasury reserves into DeFi protocols that are currently yielding anywhere from 3% to 15%”.
3. Element Finance In a Medium blog post of August, Element said that it aims to provide “structured, reliable and predictable capital growth, even within the volatile market that governs the DeFi space, while maintaining capital efficiency”.
So far, so convenient – indeed, a CoinDesk news story on the Meow launch outlines the firm’s frictionless business model, explaining: “Corporate treasuries deposit cash and Meow partners with institutional crypto lending desks to make short-term high-yield loans. Meow then collects yields and passes part of the returns back to its customers, who can access the funds within three business days.”
That sounds like simplicity itself. However, like every form of investment, the DeFi space requires careful due diligence.
In a recent column for The Conversation, technology and business ethics guru Kevin Werbach provided some insights on DeFi’s dualistic nature. On the plus side, he highlighted benefits, such as:
• Transactions can be more efficient, flexible and secure than they are in traditional finance;
• Platforms democratise financial activity, levelling the playing field between ordinary individuals and wealthy investors or institutions; and
• The open-source software that underpins DeFi services can be almost endlessly modified and customised to suit specific investors’ needs.
However, Werbach noted: “DeFi can magnify the already high volatility of cryptocurrencies. Many DeFi services facilitate leverage, in which investors essentially borrow money to magnify their gains but face greater risk of losses.”
Furthermore, he pointed out: “There isn’t any banker or regulator who can send back funds transferred in error. Nor is there necessarily someone to repay investors when hackers find a vulnerability in the smart contracts or other aspects of a DeFi service.”
Almost $300m, Werbach stressed, has been stolen from DeFi platforms in the past two years. He added: “The primary protection against unexpected losses is the warning ‘investor beware’, which has never proved sufficient in finance.”
Risk analysis
Naresh Aggarwal – associate director, policy and technical, at the Association of Corporate Treasurers – is taking a keen interest in DeFi, and its regulatory reception.
“In most parts of the world,” he says, “regulatory advice on DeFi and crypto has focused purely on the retail context – warning private investors that they stand to lose everything. But when it comes to corporates, there is much less clarity about the regulatory reach.”
For example, he explains: “If the UK Financial Conduct Authority was to suddenly say that firms couldn’t invest in crypto, that would just move it offshore. And from an industry point of view, there are lots of stakeholders – such as professional services firms, lawyers and accountants – who are making money by supporting this type of activity.
“So, there would be questions about the regulator not only stifling innovation, but undermining the performance of the financial services industry.”
On that basis, he says: “The story for treasurers here is, what is the risk/reward balance of utilising the DeFi market – and what is my board allowing me to do? For those of us who can remember the financial crisis of 2008, Icelandic banks were famously offering much higher yields than other institutions – and yet we in the investment community didn’t fully understand the risks to which we were exposed.”
As such, Aggarwal notes: “In terms of how this applies to treasurers, it’s important to go back to basics: how does DeFi fit within the overall risk portfolio? If treasurers come to the conclusion that it is worth the risk, and that it conforms to the board’s risk appetite, then they definitely should go near DeFi.”
He adds: “In many ways, this is analogous to gold: if you are holding a bunch of cryptoassets, you can make them work for you by collateralising them, and by borrowing and lending against them. So, if you have done the appropriate level of due diligence, you may find they have a role for you.
“In the end, this is all about treasurers being risk managers – and applying all the analytical skills we teach them in our qualifications.”
Matt Packer is a freelance business, finance and leadership journalist
