Understanding Centrifuge: Building an RWA lending market on Base to expand DeFi to institutions

From 2022 to 2023, speculative DeFi platforms with sky-high yields collapsed one by one, and the crypto market entered a cold winter. Investors and protocol bonds sought stability provided by traditional asset classes such as US Treasuries and private credit. Against this backdrop, real-world assets (RWA) in decentralized finance refreshed the new cognition of the crypto market.

RWA-related projects have established a connection between blockchain and the real world. For blockchain, the emergence of RWA has enabled a number of tokens and growth to have real assets as the underlying support, increasing the stability of the DeFi system. For traditional finance, RWA projects have replaced traditional financial intermediaries to a certain extent, increased the circulation channels of assets, thereby increasing their liquidity and reducing the cost of asset circulation.

But no matter what technology, earning is always the primary pursuit of degen. With the return of the crypto bull market, DeFi native yields have risen to double-digit levels, and the RWA protocol has cooled rapidly.

Until recently, BlackRock launched its first tokenized fund BUIDL issued on a public blockchain, which reignited the RWA track and quickly attracted a large amount of funds to enter the market. The leader of the track, ondo finance, led the RWA protocol tokens to usher in a general rise in the market, and new and old projects emerged in large numbers with their own abilities. Among them, Centrifuge emerged from the competition with $15 million in financing.

$15 million in financing may not be uncommon, but considering the recent downturn in the defi sector in the crypto market, most of the financing funds of more than 10 million US dollars have flowed to the construction of infrastructure, so Centrifuge is particularly eye-catching. In addition, Centrifuge's financing this time is already in the A round, and the strength and background of the investors are still stronger than before. It is jointly led by ParaFi Capital and Greenfield, and Circle Ventures, IOSG Ventures, Arrington Capital, Spartan Group and Wintermute Ventures participate in the investment.

Centrifuge was launched in 2017 and began to enter the RWA market in 2021. It is one of the earliest DeFi projects to enter RWA. Centrifuge's biggest competitive advantage is that it has successfully established in-depth cooperation with the vast majority of top DeFi projects, which has laid the foundation for its rapid gathering of users and anchoring liquidity.

Currently, MakerDAO has become a stable source of funds for 80% of Centrifuge's total active loans, forming a positive cycle between the two: MakerDAO obtains high-quality collateral assets through Centrifuge; and the huge financial support drives the explosive growth of Centrifuge's business. This win-win model allows Centrifuge to efficiently release and use real-world assets.

In addition to MakerDAO, Centrifuge has also teamed up with leading DeFi such as Aave to build a financing pool exclusively for RWA, which has brought more platform traffic and user dividends to the Centrifuge ecosystem. At the same time, Centrifuge is also an on-chain credit ecosystem that aims to tokenize the assets of small and medium-sized business owners and pledge them on the chain to obtain liquidity.

Let DeFi expand to institutions

The RWA protocol is to tokenize real-world assets, that is, to use technical means to put real estate, vehicles, and government bonds on the chain, establish a connection between blockchain assets and real-world assets, and thus complete the tokenization of real assets. In theory, the practical use of the RWA protocol can be very wide, and any real-world item can be tokenized and mapped to the chain.

Stablecoins are the most famous example of tokenization, and the tokenization of the US dollar is the most well-known, such as the well-known USDT and USDC. The formation principle of the two is the same: the project company reserves US dollars, and then mints the corresponding number of USDT/USDC, tokenizing the US dollar into stablecoins, thereby achieving the purpose of US dollar tokenization. In addition, gold is also a typical example of tokenization, such as KAU, PAXG, and XAUT.

In addition to the US dollar, tokenized RWAs often involve US Treasury bonds, debt instruments, stocks and indices, and even non-financial aspects such as carbon credits (Ecowatt, Flowcarbon), physical collectibles (Collector, Tangible), data indexes (The Graph), KYC (Shyft Network) and job markets (Human Protocol).

Related reading: " Web3 Getting Started Guide: Understand All Core Cryptographic Concepts in One Article "

The tokenization market is heating up

Whether to choose defi or tokenization depends on which solution is more profitable, especially to make money for rich people. Comparing the yield of US Treasury bonds with the yield of DeFi, the yield of US 10-year Treasury bonds is generally on the rise, and the current yield is 4.7%, while the yield of DeFi is difficult but there is no obvious upward trend, and the median yield is mostly stable at around 2%.

The sluggish performance of DeFi has made big investors unprofitable, and they have turned to tokenizing their assets. In addition to the tokenized fund BUIDL issued by BlackRock mentioned at the beginning, other companies have also begun to launch their tokenized funds on a large scale. On April 26, Franklin Templeton launched the Franklin On-Chain US Government Money Fund (FOBXX), issuing shares in the form of BENJI tokens. Each token represents a portion of FOBXX and can be traded on the public Polygon and Stellar blockchains.

The launch of this decision also brought the assets under management (AUM) of on-chain treasury bonds to a record high of more than US$1.2 billion. According to The Block, the global tokenization market is expected to reach US$16 trillion by 2030.

Image source: 21Shares

According to The Block's report, the TVL of current RWA investment products (such as Ondo Finance OUSG, MatrixDock STBT (on-chain treasury bonds)) and institutional lending platforms Maple Finance and Centrifuge have grown rapidly, and the RWA token trading volume of DEX has also reached a record high this year, exceeding 2 billion, further highlighting the change in funds' interest and demand for RWA.

Centrifuge is one of the founding members of the Tokenized Asset Alliance. According to rwa.xyz data , Centrifuge ranks first in the on-chain private credit field with an active loan amount of US$280 million. However, Centrifuge has a high risk of overdue loan defaults, with more than US$26 million of loans overdue for more than 90 days.

Institutional-grade RWA lending market

But currently, users cannot hedge, speculate, borrow or meet liquidity needs through risk-weighted assets or risk-weighted assets. If DeFi wants to expand to institutions, the corresponding infrastructure is needed to allow institutions to quickly and safely join RWA.

To this end, Centrifuge co-founder Lucas Vogelsang wrote a proposal in the financing statement to build an institutional-grade lending market called Centrifuge Pools, which will be funded and built by the DAO. The market is built on Base and integrated with Coinbase verification and extends them as an open source settlement layer. These integrations will enable institutions to quickly and safely join RWA to provide immediate liquidity and borrowing capabilities collateralized by RWA.

Centrifuge allows borrowers to finance their real-world assets without banks or other intermediaries, bridging them into decentralized finance (DeFi) to reduce the cost of capital for small and medium-sized enterprises and provide DeFi investors with a stable source of income that is not related to volatile crypto assets. Centrifuge says all this will not sacrifice compliance or regulatory requirements.

Financing real-world assets requires a real-world legal structure, so there needs to be an off-chain legal entity to perform tasks such as signing agreements, liquidation and recovery. Centrifuge basically simulates the process of corporate credit in traditional finance, with a low financing threshold, while allowing investors to earn income from real assets. In order to comply with regulations, Centrifuge is built based on the legal structure of US asset securitization.

Related reading: " Interpreting the future development opportunities of RWA from a legal professional perspective "

In order to combine the real world and the on-chain world, the RWA protocol usually establishes a DAO organization, and the DAO establishes an off-chain foundation as a legal entity to manage the RWA project. Centrifuge DAO consists of several main parts: Centrifuge Credit Group (CCG), Protocol Engineering Group, Governance Coordination Group, K/factory, Centrifuge Network Foundation (CNF) and founding documents.

On this basis, some agreements will also adopt SPV, or special purpose entity. This is an independent legal person established specifically for the corresponding funding pool of the project, which plays a role in isolating bankruptcy risks. For example, Centrifuge, SPV is often used to hold real-world assets that are being financed. It allows these assets to be legally and financially separated from the main operating company, thereby reducing risks and increasing transparency for investors.

The setting of each pool in Centrifuge is designed to reflect the structure of the agreement and the actual relationship between the parties. The template provided is based on the legal structure used for asset-backed securitization for decades. In order to securitize an asset, the legal ownership of the asset is transferred from the asset originator to the SPV.

Image source: Centrifuge Documentation

Centrifuge's RWA Solution

At the beginning, Centrifuge was a decentralized asset financing protocol designed to allow companies to exchange their own data, including company reputation, business partners and other information. It is reported that Centrifuge's protocol can bring the following functions to users: it can directly connect customers and suppliers and track historical transaction records; users can establish a system for authenticating identity and reputation for dispute resolution and risk management; exchange some financial documents, such as receipts, order information, etc.

In 2021, Centrifuge began to enter the RWA market. It is one of the earliest DeFi projects involved in RWA and is also the technology provider behind head protocols such as MakerDAO and Aave.

RWA on-chain and trading

In order to bring RWA to the chain to generate income, a place to store real-world assets and an open market that acts as a real-world asset pool are needed.

Initially, Centrifuge stored funding data on Ethereum and established an open asset pool Tinlake, using the Aave protocol to bring liquidity to RWA on Centrifuge. At Tinlake, Centrifuge allows anyone to start an on-chain credit fund and create a mortgage pool.

Borrowers can tokenize physical assets through Tinlake, and physical collateral will be divided into two tokens, DROP and TIN, based on risk and return, representing the priority fixed rate and the secondary floating rate respectively. Investors can choose to invest in DROP or TIN based on their own risk tolerance and return expectations.

Subsequently, Centrifuge used the Substrate framework to build its own proof-of-stake blockchain Centrifuge Chain, and launched a new fund pool Centrifuge App to replace Tinlake, allowing any EVM-based on-chain user to invest. While retaining the original advantages of Tinlake, Centrifuge App has increased the speed of KYC and investment participation, added KYB (Know Your Business) process automation, and laid the foundation for subsequent multi-chain support.

Those who entered the circle in the early years should be familiar with Substrate. At the 2018 Web3 Summit, Gavin, the founder of Polkadot, used the Substrate technical framework to build a new blockchain in 15 minutes, which has become a good story in the crypto community. Gavin explained Substrate as true P2P, upgradeable, unlimited logical flexibility and economic flexibility.

Centrifuge Chain enables users to bring their assets to the chain as NFTs, which contain the most important information required for pricing, financing and valuation as collateral for financing. Asset pricing, issuers borrow liquidity from the funding pool. Over time, the accrued debt of each asset is repaid by the issuer, including interest payments and principal repayments.

Image source: Centrifuge Documentation

While any on-chain information attached to these NFTs will be public by default, Centrifuge's private data layer allows issuers and investors to securely and privately access additional asset data. This asset data is hashed, the hash is anchored on-chain, and added to the NFT metadata to create a verifiable link to the NFT without making the data public.

On-chain fund management

Currently, Centrifuge has 19 pools with a total of 37 tokens, including DROP and TIN, with a total TVL of over $289 million. In order to better manage RWA assets, Centrifuge launched Centrifuge Prime, an RWA investment platform for DAO Treasury bonds in June 2023, supported by a diverse community of financial professionals and developers.

In order to attract sufficient liquidity, Centrifuge once proposed in the Aave community to allocate part of the stablecoins held by Aave Treasury to low-risk RWA investments through Centrifuge Prime. Centrifuge once said in an interview with The Defiant that expanding Prime's operations is the project's top priority. In addition, Centrifuge also cooperated with asset management company Anemoy to launch a fund management platform in March this year, aiming to bring credit funds into the public blockchain. An unnamed entity from the Celo ecosystem subsequently invested $100,000 in the tokenized treasury through Anemoy, with an additional $1 million allocated for later deployment. Anemoy has also integrated with fund management company Trident Trust, which has a vision to pioneer efforts to automate on-chain fund structures, to manage its Centrifuge-based regulated BVI professional fund.

Centrifuge's native token CFG is used as an on-chain governance mechanism, and CFG holders can manage the development of the Centrifuge protocol. At the same time, CFG is also used to pay Centrifuge Chain transaction fees. The token economics can be viewed in the Centrifuge Documentation . From the perspective of token prices, CFG has generally been on a downward trend in the past month. As of the time of writing, the price is $0.6581.

It is worth noting here that the circulation of CFG has accounted for 81% of the total, that is, most of the tokens have been circulated in the secondary market, and there are not many chips from project parties or institutions in the market.

Team and Financing Background

Centrifuge is the fourth startup founded by a group of Silicon Valley "veterans". It was founded in 2017 by three co-founders Lucas Vogelsang, Maex Ament and Martin Quensel. Maex Ament left in 2019. All three are professionals in the blockchain and financial industries with rich industry experience.

The project's founding team previously co-founded and operated Taulia, an enterprise-level supply chain financial service platform, providing convenient and efficient supply chain financing support for Fortune 2000 companies. However, although Taulia has helped small and medium-sized enterprises reduce their funding costs, these companies still face many financing barriers, such as being unable to directly obtain open liquidity resources and having to rely on the traditional banking system and bear its high intermediary fees. At the same time, the lack of an open and transparent trading venue also affects their access to funds. So they founded Centrifuge to help small and medium-sized enterprises further reduce their financing costs.

Currently, the company's engineering and product teams are located in Berlin, Germany, while commercial activities are mainly concentrated in San Francisco, USA. The entire Centrifuge team has now grown to about 56 people, covering multiple fields such as blockchain, finance, and legal supervision.

Since its inception in 2017, Centrifuge has completed five rounds of financing.

In March 2018, Centrifuge completed a $3.8 million financing round, with investors including Mosaic Ventures and BlueYard Capital. In 2019, it announced a new round of financing of $3.7 million led by Crane Venture Partners, and added new investors including Atlantic Labs, Inflection Capital, Robert Leshner of Compound, and Fabric Ventures.

In February 2021, Centrifuge completed a $4.3 million financing round, led by Galaxy Digital and IOSG, with participation from Rockaway, Fintech Collective, Moonwhale, Distributed Capital, TRGC, and HashCIB. In May, Centrifuge announced a $3 million strategic partnership with BlockTower.

On November 2, 2022, Centrifuge completed a $4 million strategic round of financing, with participation from Coinbase Ventures, BlockTower, Scytale and L1 Digital. It is reported that BlockTower and MakerDAO created a $220 million fund pool on Centrifuge. On April 17, 2024, Centrifuge announced the completion of a $15 million Series A financing, with ParaFi Capital and Greenfield co-leading the investment, and Circle Ventures, IOSG Ventures, Arrington Capital, Spartan Group and Wintermute Ventures participating.

References:

1. Official documentation: https://docs.centrifuge.io/getting-started/introduction/welcome/

2. Official Mirror: https://centrifuge.mirror.xyz/

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