The Mento Reserve consists of a diversified portfolio of different on-chain assets supporting the ability of the Mento Protocol to expand and contract the supply of Mento stable assets, in-line with user demand. The highest goal of the reserve is the stability of the outstanding stable assets. Currently (as of Nov. 15, 2023) the reserve overcollateralizes the stablecoins by a factor of ~3.3 (i.e. the value of the reserve in USD is approx. 3.3x of the value of all outstanding stable assets in USD) with some of these reserve assets to be returned to the Celo Community Fund following CGP102.
So far, none of the assets in the Mento Reserve have ever earned a yield and the reserve was focused on holding highly liquid assets (BTC and ETH) next to CELO and other stablecoins like USDC and DAI. This was very conservative and not earning yield on these assets has protected reserve collateral and therefore Mento stablecoin holders from the wide range of hacks, bugs and rug-pulls across Web3 over the last years.
Yield and rewards on on-chain assets are a developing field with more solutions becoming available on a weekly basis and veteran solutions becoming more battle tested. It therefore seems worth revisiting the topic of yield on reserve collateral. Generating yield and rewards on a part of the reserve assets could help grow out reserve overcollateralization further and/or, in the future, could be used to incentivize beneficial behavior on the Mento protocol. It would however come with some additional risk (in addition to the principal risk of the asset), mainly platform / counterparty risk and liquidity risk due to unlocking periods.
Weighing these arguments against each other, not earning any yield with reserve collateral feels over-conservative to me at this point. The Web3 space has progressed and there are now some yield and reward solutions that appear to provide a reasonable risk/reward tradeoff. I would therefore like to propose a first allocation of reserve assets into yield bearing assets.
Solutions that require a KYCed counterparty:
There is a wide range of options available and several teams have showcased their solutions to Celo and Mento community members over the last few months. Many of these solutions require a KYCed counterparty before engaging is possible. Some notable solutions (in no particular order) are for example:
- T-Bill type yields:
- Mountain Protocol
- USDLR by Stable (withstable.com)
- Matrix Port
- OUSD by Ondo
- tfBill by TrueFi
- Tokenized bonds:
- Umoja (see for example their forum post)
- Backed Finance
Mento aims to be a fully decentralized protocol which makes it non-ideal that these solutions require a KYCed counterparty, i.e. a real-world entity acting on behalf of the protocol. Additionally, these more centralized solutions are not easy to analyze in terms of their risk/reward tradeoff and proper due diligence, for example, around the entity structure and counterparty risk involved, is challenging. Having these solutions deployed natively on Celo in a way that they can be interacted with in a decentralized fashion would give additional options for a fully decentralized Mento.
Solutions that do NOT require a KYCed counterparty:
The decentralized solutions are more easily automated going forward, as everything can theoretically be triggered directly from smart contracts. They are also a bit easier to assess as with them, most of the action happens on-chain. Since there are no KYC requirements, the setup / operational overhead is low.
The following yield solutions are more decentralized in nature and do not require a KYCed counterparty:
- Staking DAI to receive sDAI (i.e. earning the DAI Savings Rate via Spark Protocol)
- Staking ETH via LIDO
- Staking agEUR to receive stEUR (Angle Protocol)
To get started with reserve collateral earning a yield, I would propose to start with these non-KYC requiring solutions. More precisely, I propose to:
- lock all of the reserve DAI in sDAI (effectively switching out DAI for sDAI in the reserve target allocation),
- lock the reserve ETH that are currently not committed to liquidity pools via CGP121 in LIDO and
- allocate a quarter of the EUROC holdings into Angle Protocol’s stEUR.
100% of all the rewards earned shall flow back into the reserve as additional stablecoin collateral.
It is important to account for the unlocking periods of the chosen solutions to avoid liquidity crunches. sDAI can be unlocked immediately 24/7. Same for stEUR. Unlocking ETH with LIDO takes “anywhere between 1-5 days under normal circumstances”, i.e. if there are no unusually large withdrawal requests made via LIDO. With this combination, liquidity crunches should be very unlikely.
Please let me know how you feel about this suggested direction. I am also looking forward to discussing this and more in the upcoming Mento Community Call on November 22nd, 6pm CET.