Podcast #4: EthStrategy

Listen to our latest episode featuring EthStrategy and learn how their protocol turns ETH's volatility into yield for bondholders, the risks involved, and emerging trends in crypto capital allocation like vault curation

In this episode, Nertila from Trading Strategy discusses with Clouted from EthStrategy. ETH Strategy is a DeFi treasury protocol that offers leveraged ETH exposure without risk of liquidation or volatility decay. It operates as Ethereum's first autonomous treasury protocol, designed to reimagine MicroStrategy's approach in a DeFi-native context.

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Transcript:

Welcome to TradingStrategy.ai, the podcast where you can learn more about essentials of DeFi trading in new world. This is your go-to show for automated trading strategies and market insights. Welcome to the conversation, and this is your host, Nertila.​

Nertila: Hello, everyone. Welcome to today's podcast. As a guest, we have Clouted from EthStrategy. Hello, Clouted. Thank you so much for joining me in this podcast today. I really appreciate you finding time to join our conversation, and I'd like to get started with some small intro about yourself and get to know you better.

Clouted: Yeah. Thank you so much for having me Nertila. So bit of background on myself. I've been involved with crypto i think for a decade, yeah. it just keeps creeping up in years as time goes on. But I got involved with Ethereum early on because I was studying computer science, and I had a, a lecturer who kind of taught me... he was a Eth 2.0 developer before Eth 2.0 was even a thing, kinda taught me about smart contracts. And after working in finance kind of clicked immediately how amazing of a technology this was. So was infatuated with crypto from a very long time ago. since then, I've just always been trying to contribute, invest and and give thoughts on the industry in some way, and have been trying to build in DeFi for the past maybe five years now.

Specifically many different types of protocols, but I've always had an obsession with how to DeFi credit and have attempted to do this in many different ways. Most recently, the latest form of this DeFi credit experimentation has taken form in a venture called EthStrategy, which is inspired by Michael Saylor and what he does with MicroStrategy. however, with a DeFi first principles approach, that actually does contribute to expanding different types of credit on Ethereum. So yeah, that's a quick background on myself.

Nertila: Can you expand a little bit more on EthStrategy and what exactly do you guys do with credit and EthStrategy That's very interesting approach considering that I remember few discussions six years ago, actually, when credit was not even a thing on crypto. So I would like to get into a little bit more details into that

Clouted: so ETH strategy at its core is a permissionless autonomous protocol that wants to accumulate as much eth as it can and hold on for it as long as it can

The way that it does this is that it, it allows people to bond USD to the protocol, so it sells bonds as a protocol. These bonds are very long-dated. They are four-year bonds, and unlike a normal bond, they do not pay interest. They simply give free, free call option on ETH attached to the debt that people provide to the protocol. The protocol then uses this debt that it receives from selling these bonds to buy ETH and hold onto it for a long period of time, which is four years in crypto. And the bond holders, the ones that purchase the the bonds or bond to the protocol and receive the bond, they in return get this free call option, which allows them to make money in different dimensions such as being able to make yield from the volatility of ETH, is a trade that is possible when you receive a free call option because of the arbitrage that is available in options markets. so holders make very good yield on their USD that they've provided, and the protocol is able to basically take out a un-liquidatable leverage position on Ethereum for a very long time. And this does expand credit in, in the DeFi space as a whole because bonding itself can become a primitive and credit layer. the debt is completely backed by ETH. The yield is completely endogenous to ETH's volatility, there can be crypto native stable coins or other types of primitives built on top of the bonding system in the future once it you know, expands to the right levels. And it's all completely backed on ETH. is a natural evolution of finance on-chain. the most basic sort of finance is already covered on Ethereum with things like lending, borrowing, and saving, you know, getting, getting interest. but the little bit higher forms of finance, which is more products, derivatives, and different dimensions of how financial products can be sliced is only now really just starting.

Clouted: And a team that has a history in investment banking and quant work this seemed like the most natural evolution to kind of bring to DeFi

Nertila: That's quite a progress compared to where crypto was 10 years ago

Clouted: Yeah, definitely is a bit too much of an advancement in some cases because it is actually very complicated and hard to understand. We have found that DeFi, whilst it is a very good financial system, lacks, real financial knowledge in the ecosystem to be able to maximize these types of products. Traditional finance does this on their own rails, but once you productize these types of primitives as a protocol, definitely participants in the market are still very new and nascent to these type of concepts, so it is hard to scale and sell and, and get people to use. So there is these challenges with being kind of two steps early.

Nertila: That would mean that your day-to-day job with EthStrategy would be working on technical aspect or doing research about financial product and how to bring them to DeFi

Clouted: so my core work right now... I mean, at the beginning, obviously designing the protocol, and raise, the initial kind of offering for the protocol. But these days it's really pushing the product of bonding in some way, getting the debt into the protocol which is mainly done through just a lot of BD a lot of trying to structure certain trades for crypto funds and market makers so that when they take out this trade, they can make money and also provide TVL to the protocol. And that's basically it for me these days is really focusing on expanding the debt in the system so that the protocol can increase its TVL and really do what it was supposed to do.

Nertila: Most people would consider volatility as a risk, it seems like you are using it make more profit however the protocol work. So if there is any risk on what you are doing, what is the management system you have in place to mitigate any risk, any other type of risk, obviously?

Clouted: Yeah. So there's definitely risk, way the protocol has been financially engineered, you know, financially speaking obviosly there is smart contract risk that can not be avoided the thing we have done there is just have sufficient audits. I think we've gone through about four audits now in different dimensions of the protocol. But a-above code and implementation risk, there is the financial risk, which is something that you would see in something like Luna, for example, where it had, the wrong financial engineering that caused the death spiral. So when it comes to the financial engineering of EthStrategy, it's been done in a way and tested and also the financial engineering has been audited so that the risk is really bound to Ethereum and Ethereum's volatility. obviously if you , are playing with a protocol like this, it's very heavily dependent on the performance of ETH and the volatility of ETH. Ethereum decides to go to zero tomorrow apart from our careers being over, this protocol would also probably cease to exist and not work, and everyone involved with it would lose money. If the volatility of Ethereum went to zero tomorrow, so if it just decided to tick up 0.1% every day for the next thousand days so there's no volatility at all that would also really impact the kind of the yields and the ability of the protocol to generate revenue and demand and sell bonds and and operate as a flywheel. So there is these dependencies financially, but in terms of these risks there we just rely on good engineering on both the implementation and the financials good auditing on those and testing, testing them out in various different scenarios, running a thousand, five thousand different ETH charts through the system to test different conditions and edge cases and just the usual finance work, I guess for a, a complex financial primitive like this.

Nertila: Crypto has gone through different cycles where capital was focused on certain part or products of industry. Where do you think the capital and risk will accumulate in the near future?

Clouted: Yeah, it's a good question. So it's obviously hard to say. I think that the trends that I see the most as far as the attention that I pay, which is less than before just because of how busy things are building and, and whatnot. But what I see in the market is I think two trends are starting to become very obvious, one more than the other.

Clouted: So the one that's more obvious is vault curation. I think that vaults, vaults in DeFi have definitely taken place of funds in traditional finance. They've democratized the fund space, and whilst it is still a bit of regulatory arbitrage, how vault curators can be basically fund providers and take their two and twenties or whatever they deem is is better than that and kind of get capital from retail markets without the proper regulations in place because of some sort of regulatory arbitrage. I still think that there's like needed to perfect this model obviously for accountability and all of this 'cause we've already seen vault curators basically mess up and have serious problems. But ultimately the trend is the trend. I think vaults kind of dictate a lot of where capital is allocated, how it's allocated because they will be the first step for capital going into DeFi. And maybe vault curators themselves become more democratized or whatnot. Personally, I would like to see vaults be autonomously programmed as opposed to curated by people, so less like funds and more like, autonomous kind of trades, which is something that we are doing at EthStrategy. So I think that's a good way for that trend to go. I do think that vaults are definitely the long-term trend that we're seeing right now in terms of capital formation on-chain. One newer trend that's maybe too early to say but is still very prominent is the, the ability for AI to kind of manage capital so AI agents and whatnot. think that they will become more and more prominent, but that's more of a g-general kind of indirect impact of AI as a whole on every industry as opposed to crypto first. So that's kind of a natural... Like even traditional finance would likely have AI agents come in and really impact the way that things happen. So that's another trend that I'm also keeping an eye

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Nertila: What are some of the hard lessons you have learned so far in crypto?

Clouted: Oh . That is a difficult question . If I was to reflect, I would say the crypto world definitely doesn't move at the– or the real world definitely doesn't move at the same speed as the crypto world. it's definitely a lesson, I would say, and not just for myself, but for everyone in crypto. In some regards, some things have gone incredibly fast in crypto, but in others things have not. I would say that, the overall crypto thesis is that core value propositions like self-sovereignty, which is self-custody permissionless access to things, censorship resistance, not being able to be sanctioned or frozen or privacy, being able to obscure your activity and be private. These type of core values that crypto provides users are not actually valued as it stands in the real world. Maybe not yet, and maybe it really will take a much more serious real world event for majority of users and capital to wake up to the value propositions of these particular types of things. But I do think the world is converging on, on this because we're slowly heading into a much more capital controlled world, CBDCs the way that there's a loss of privacy, especially in places like the EU or in other areas i-in the world. Maybe war countries are sanctioned extremely heavily, internet is cut. So these types of themes are becoming more and more prevalent, and I do think that one day there will be a spark that basically a large portion of, group of individuals suddenly pivots to crypto because they have to, not because they want to. That's probably something that's gonna take longer than I initially expected, at least. but we will see. That's probably like an overall macro lesson that I've encountered being in the, in the crypto industry.

Nertila: That's very interesting. At least we know some people have not lost their cypher punk spirit.

Clouted: Yeah, I mean the way I see it is and I usually make this argument, Crypto can go two ways. You can either become a more efficient TradFi. So, it can have a better way of doing KYC, it can have a better way of censoring and freezing people, it can have a better way of sending and be more efficient in every single way that TradFi is, or it can be a completely evolutionary system to TradFi. And that's really what I think that it should be, and if it's not an evolution, it's just we really fumbled the bag on crypto as a whole. I think that it should be completely different way of operating where you don't have to rely on anyone, you don't have to trust anyone, you don't have to give up your private data. And really really gives power back to people as opposed to takes power from them. That's the real core issue here. And I think that we are with RWA, stable coins all of these things, we are seeing it become more of an efficient TradFi, which was inevitable, but I would just like the other side to also kind of have the same type of progress which is the side of privacy, the side of fully permissionless protocols, the side of censorship-resistant things like crypto stables, like liquidity or, any future crypto stables that come out.

Clouted: Just having the right balance is very important. a good analysis to this is basically like it is important for the citizens of America to be able to, have weapons and guns because the balance between the power of the people and the power of the military is what really keeps the democracy kind of like in check, as opposed to when, citizens of a country don't have weapons, they can they can have, like, certain things imposed on them.

So I think, like, the cypherpunk version of crypto needs to be in balance with the whole traditional financial rails side of crypto.

Nertila: They have to be synergistic with each other. I don't see one moving forward without the other. What do you think about current market efficiencies?

Clouted: So I have a weird thought on current market efficiencies. I think that obviously there is significant inefficiencies in crypto, which is why there is so much money that can be arbitraged and made. But on the other hand, I think that DeFi is And not only has the ability to be, but is the most efficient system ever. So TradFi is full of inefficiencies. That's why you have actors that are, market makers or investment funds or hedge funds that make so much money exploiting these inefficiencies. Think that DeFi eliminate all of that, like even as simple as never needing market makers, if we just keep researching and tightening up the AMMs and, hedging the volatility or the impermanent loss on those things and, and it could become an extremely efficient system.

So I think DeFi has the potential of being extremely financially efficient, closing a lot of the arbs. but I do think that it is extremely inefficient at this stage. There's a lot of inefficiencies that can get closed up. But I really think the inefficiencies don't come from the way that things are built.

They just come from the fact that a lot of the operators on-chain are just still not very sophisticated financial operators. You have like a bunch of sharks that are taking all the money from the fish that are just playing around trying to bet on stuff. so I think that's really the people that are on-chain is the reason why there's inefficiency. That said, I think that DeFi also does something else interesting. So this is some financial philosophy that I've learned after working in it for so long. I think that DeFi uses market inefficiencies to its advantage in its engineering as opposed to traditional finance that usually the quant work and, the work needed to make structured trades or what not is to get rid of all the arbitrage and kind of make it an efficient type of market.

Clouted: In DeFi, a lot of the way that protocols can actually become autonomous and be built from first DeFi principles is to leave market inefficiencies so that the actors on the market can close these inefficiencies to then have the protocols kind of do what they want it to do.

Clouted: So a lot of the game theory in building DeFi, my opinion, well, this is how I've built in DeFi so far, has been to actually give the market inefficiencies so that when the market comes in to close those inefficiencies, it results in some action being performed in DeFi, which is the real kind of like product. So I think that's that is very heavily underexplored or utilized in DeFi, and I think is a big feature, not a bug of DeFi.

Nertila: Definitely Clouted, thank you so much for sharing with me with us, better to say all your insights about market and your current venture. I hope you enjoyed this conversation as I did.

Clouted: Yeah, no, thank you so much for having me. That was a very good conversation. I love talking about these things, and wish you all the best.