Enzyme can be a very powerful tool when building crypto indexes. The protocol functions as a DeFi operating system, which means that managers can massively reduce costs associated with building, operating and maintaining an index. Furthermore, as a versatile DeFi aggregator, Enzyme enables operators to exceed the performance of a similar TradFi crypto index due to the composability of multiple protocols like Aave, Uniswap, Curve, Convex, Compound, Yearn, Idle, etc.
However, using Enzyme for this purpose in the most efficient way requires a different mentality to what active open-ended fund managers might be used to. This blog post describes how our latest release Sulu facilitates building indexes, how you can get started and why these crypto indexes can outperform crypto indexes built elsewhere.
How does Sulu facilitate Indexes on Enzyme and how can you build one?
A key improvement in our latest Sulu release is the ability to enable vault shares transferability. This makes a huge difference for those who want to build indexes on Enzyme’s DeFi Operating System. The easiest way to explain this is by walking you through an example.
Step 1: Setup and configuration
When creating your vault on Enzyme, the key step is to enable the ‘shares transferability’ feature. Here you have multiple customisation options: you can decide to make your shares transferable from and to anyone, to limit the exchange amongst a smaller set of known addresses or even exclude certain addresses.
In this basic configuration, the share transferability is enabled without any limitation. That means anyone can transfer and receive shares in a secondary market.
In this alternative configuration, the share transferability is enabled but restricted to a sub-set of known addresses. This can be useful, for example, if you want your index to be accessible only after a KYC process. Ideally when getting started with Enzyme you either have some capital of your own to pre-fund your vault or have a period of time beforehand where you raise capital.
If you plan on providing the capital yourself or limit it to a subset of known depositors (i.e. addresses), you may also want to use the “allowed investor list” functionality and specify who is allowed to provide the initial capital to your vault. The screenshot below demonstrates this functionality during the vault creation process.
Step 2: Funding the vault & then closing it off
Once the vault is set up, you can start to raise capital. If you’re funding this yourself, you can just deposit money directly into the vault. If you’re crowdfunding instead, you can announce to your circle of funders that they can deposit into the vault for a predetermined time period.
Once you hit your target funding amount, you can edit the settings of your vault and disable new depositors. This will close off the vault and prevent it from going out of balance every time someone makes a deposit in future. You can opt to keep this open and skip the next steps, but this could become quite expensive and cumbersome in terms of rebalancing gas costs on Ethereum, so it might make more sense on our Polygon deployment.
Step 3: Allocate your index positions
Now you’re ready to allocate! Let’s assume that you raised $1.2m USDC and you have a very simple strategy to allocate it equally between WBTC, WETH and USDC with a rebalance once per month.
Your starting portfolio might look like this:
Step 4 : Create a market for your index shares
Now that you’re all set up and ready to go, we need to think about how you’re going to create liquidity for these shares. The most capital efficient way to automated this process (whilst also minimising impermanent loss) is to create a Curve liquidity pool for volatile (non-pegged) asset pairs.
Curve v2 enables you to concentrate liquidity much more effectively by leveraging an internal price oracle system which you can configure to track different parameters to make better prices and minimise losses. This means you can obtain 5–10x more liquidity (ie. lower slippage, much higher trading fees!) and avoid unnecessary losses with less initial capital outlay.
Note that as the creator of this pool you will have to provide a second pair for liquidity (eg. ETH) but the amount you’ll need to source is greatly reduced by the efficiencies that Curve v2 provides. This blog post is a nice introduction to Curve v2.
How to leverage Enzyme composability to generate yields on indexes
So now that we’ve looked at how you can build an index on Enzyme, the next step is to show you how much alpha can be generated thanks to the DeFi composability. The key message is that traditional index products are a passive exposure to a certain asset class, while DeFi allows you to turn indexes into income-producing assets by effectively combining different yield strategies that are available in the market. This allows for the creation of a new class of indexes that offer both growth and income potential.
Let’s go back to the portfolio we initially created. Let’s imagine that in the first year BTC and ETH have appreciated by 10% against USD whilst USDC has stayed at par.
Now, let’s imagine that we leverage all the composability of DeFi to enhance yield — at the end of year, we end up almost doubling the initial performance.
In the table below you can see a practical example of how you can compose a yield strategy based on the combination of Curve, Convex and Aave protocols. It’s important to note that all of this can be designed and operated in one place using Enzyme.
As you can see below, the net 1-year appreciation combines both growth and income potential through the amalgamation of asset appreciation and DeFi yield strategies.
This means that whether you’re an asset manager, corporate treasury manager or DAO treasury manager, you can effectively maximise the assets at your disposal to generate the greatest returns.
We hope that this article is a useful guideline. If you found it interesting, we encourage you to onboard Enzyme and enjoy the opportunities that DeFi is opening up for innovative asset managers. We strive to change the traditional paradigms and create new avenues for disruptive financial solutions.
For any questions or doubts on anything in this blog post, do not hesitate to get in touch with us at info@avantgarde.finance.
