DeFi needs Bitcoin: BTC flowing into DeFi has increased 50 times in half a year

When Bitcoin rose to break through $15,000, mainstream DeFi governance tokens such as UNI and YFI hit bottom.

Throughout October, the price trends of mainstream DeFi assets and Bitcoin went in opposite directions. While TVL (value locked) remained at $10 billion and did not decline significantly, the price of protocol governance tokens fell. UNI fell from $4.1 to $1.75; during the same period, YFI fell from $26,000 to $7,450.

The correlation between BTC and DeFi finally became prominent in November. In the week when Bitcoin continued to rise from $15,000, YFI rebounded from the trough and rose to $19,250; UNI's recent high was $4.1.

DeFi needs Bitcoin.

You should know that the total market value of global crypto assets has reached 460 billion US dollars, of which Bitcoin's circulating market value is 290 billion US dollars, more than half. Looking back at the outbreak of DeFi this year, Bitcoin has actually boosted it secretly.

After the Bitcoin production cut, the amount of BTC flowing into the DeFi market increased 50 times in less than half a year, contributing nearly 1/5 of the DeFi locked value. Currently, the value of BTC locked in the DeFi market is $2.8 billion, less than Ethereum's $4 billion, so there is enough room for growth.

However, bottlenecks in cross-chain technology and the difficulty for the ERC-20 version of BTC to achieve fully decentralized custody have stopped Bitcoin holders who are concerned about the security of their assets.

The large-scale flow of BTC to DeFi is expected by the industry. Many industry insiders believe that if technical and security issues can be resolved, the integration of Bitcoin into DeFi may expand the latter's market size several times. "Because the DeFi market needs high-quality collateral assets, long-term BTC hoarders want to obtain additional income, the integration of these two ecosystems will bring a win-win situation."

BTC’s DeFi locked value is still less than ETH

October was a month full of "black swans" in exchanges. However, Bitcoin was not affected by this and started to rise against the trend, rising from $10,300 at the beginning of October to $16,300, an increase of more than 50% in just one month.

At this time, the market's attention is attracted by the "coin king", and DeFi, which was lively throughout the summer of 2020, has now dimmed. The prices of assets such as YFI, YFII, and the protocol token UNI of the leading DEX Uniswap, which emerged in July and August, have fallen sharply.

After October 1, YFI began to fall from $26,000, falling to a low of $7,450; during the same period, UNI fell from $4.1 to a low of $1.75.

Looking at another piece of data, the funds flowing into DeFi have not actually left.

Defipulse data shows that after entering October, DeFi's TVL (total locked assets) has fluctuated above US$10 billion, falling to a low of US$10.05 billion on October 8. It then rebounded and rose to a peak of US$13.9 billion on November 11, quietly setting a new record high.

Recently, Bitcoin has continued to break upward from $15,000, and DeFi protocol tokens such as UNI and YFI, which have hit the "freezing point", have also rebounded strongly. In the past week, YFI has risen from $7,450 to $19,250, and UNI has also risen from $1.75 to $4.1.

Some analysts believe that Grayscale continues to buy Bitcoin, and Paypal has also opened up the way for buying and selling Bitcoin. Stimulated by the entry of a series of traditional financial institutions, investors have concentrated their funds on Bitcoin. When Bitcoin reaches a certain high point, investors will also notice that the previously wildly growing DeFi is in a trough, and quickly buy in to push up the price of DeFi.

This rotation effect was more obvious in the crypto asset market from 2017 to 2018. At that time, the list of gains was "BTC followed by small currencies". Now this rotation has begun to appear in the DeFi sector.

Zou Yang, head of MBLabs and ChainX councillor, once publicly stated that whoever can connect Bitcoin to DeFi will be the next DeFi king.

This statement is not without logic. Bitcoin, the first cryptocurrency in the market, has the most holders, the strongest consensus, and the largest market capitalization, accounting for half of the entire cryptocurrency market. Coingecko data shows that the current market capitalization of global crypto assets is $460 billion, and BTC's circulating market capitalization is $290 billion, accounting for 62% of the share; ETH, with a circulating market capitalization of $52.34 billion, is only 18% of Bitcoin's market capitalization.

In the DeFi market, Bitcoin has a certain degree of participation. According to Defipulse data, on November 15, 8.9 million ETH were locked in the DeFi market, which is now worth $4.07 billion; while the number of locked BTC was 175,000, which is worth $2.8 billion, less than ETH.

The amount of money flowing into DeFi has surged within half a year of Bitcoin's production cut

BTC’s circulating market value is 5.4 times that of Ethereum, but in the DeFi market, its locked value is only 67% of Ethereum.

"BTC currently occupies the majority of the cryptocurrency market share, and DeFi is incomplete without BTC," said DeFi user Saibo (pseudonym). He was a miner who mined Bitcoin with a laptop 10 years ago. In his opinion, the addition of Bitcoin will also bring more funds into the DeFi market, expanding the market size, "at least a few times more."

BTC flowing into DeFi increased 50 times in half a year

In fact, when liquidity mining ignited the DeFi market, Bitcoin was also an important driving force, although it was not direct.

As early as May 12, when Bitcoin was officially halved, Cao Yin, a director of the Renaissance Fund, wrote an article predicting that "the halving may cause a large amount of Bitcoin to enter the DeFi lending platform."

He believes that the previous Bitcoin halvings would bring about a Bitcoin bull market, and when BTC rises, DeFi will inevitably benefit. The specific impact transmission path is reflected in the fact that after the halving, when miners are optimistic about the future market, they will transfer Bitcoin to DeFi for collateral and borrow stablecoins for daily expenses; in addition, due to the small demand for DeFi collateral, the amount of BTC flowing into the DeFi protocol was small at that time, but when the future market growth space is enlarged, the driving force will be more obvious.

This prediction is supported by data. Defipulse shows that on the day of Bitcoin halving, there were only 3,238 BTC locked in the DeFi protocol, and the number increased to 4,734 the next day.

Since then, the momentum of BTC flowing into DeFi protocols has been unstoppable. On June 20, it exceeded 10,000; on September 14, it exceeded 100,000; and on October 26, it rose to 170,000, which is 50 times the inflow amount during the halving.

Since the Bitcoin network does not support smart contracts, if it wants to flow into the DeFi protocol, it needs to cross the chain to Ethereum. The wBTC generated in the Ethereum smart contract bears the main demand for Bitcoin in the DeFi market.

If users want to obtain wBTC, they only need to deposit BTC into the merchant address. After the merchant verifies the identity through KYC/AML, it will cast an equal amount of wBTC on the smart contract and transfer it to the user. If users want to exchange it back, they can deposit wBTC into the smart contract, and the merchant will destroy it and then redeem the BTC to the user. The BTC used for collateral is managed by a centralized institution called Bitgo.

There are many X-BTC with similar mechanisms. After the outbreak of DeFi this year, many BTC-pegged products such as tBTC, pBTC, and renBTC were born. As early as October last year, DEX Tokenlon under the wallet service provider imToken issued imBTC.

Comparison of market value of BTC-anchored assets

Xiao Wei, head of operations at Tokenlon, told Fengchao Finance that imBTC was indeed issued because of the huge potential. "BTC has very good liquidity in centralized trading scenarios, while DeFi applications such as Maker CDP and Compound on Ethereum lack high-quality collateral, which restricts the expansion of liquidity scale."

“Imagine that when users have a programmable Bitcoin, they can interact seamlessly with smart contracts such as DeFi, Staking or DEX and generate value, and they can also have a 15-second transaction block speed and instant income. Isn’t this worth trying?” This convenience and the potential value that can be generated, in turn, stimulated the demand of Tokenlon users to trade BTC, “so we resolutely launched imBTC.”

The “King of Coins” needs to pass two more levels to enter DeFi

DeFi needs BTC.

So, will holders put their BTC into the DeFi protocol? When this question is put in front of users, there is still hesitation.

"I will definitely participate," said DeFi enthusiast Cyber, but he must ensure safety first. He said that since the Bitcoin mainnet itself does not support smart contracts and the current cross-chain solutions are not perfect, security will be the biggest concern of users.

Both wBTC and imBTC use smart contracts to issue anchored assets to achieve cross-chain circulation of BTC on Ethereum. Among them, wBTC uses a page showing the balance on the chain to ensure transparency, and there is a corresponding DAO community organization to achieve decentralized decision-making. However, the BTC pledged by users is managed by the centralized institution Bitgo.

On November 15, there are 124,260 wBTC left

This has caused Ethereum founder Vitalik Buterin to question the lack of transparency of wBTC. In August this year, he said on Twitter that he was still worried about whether the Bitcoin anchored currency Wrapped BTC (wBTC) was trustworthy, "I hope these tokens can at least be migrated to a multi-signature smart contract of appropriate size."

Xiaowei, the person in charge of imToken application, also admitted that due to the limitations of blockchain infrastructure, the cross-chain circulation of BTC cannot achieve both ideal decentralization and ease of use. imBTC chooses to temporarily use centralized custody under the principles of security and transparency to ensure the ease of use of imBTC. Tokenlon is also exploring decentralization and plans to transform centralized custody into a DAO (decentralized governance) custody solution without losing ease of use to achieve more transparent management.

"Decentralized management of collateral assets is a challenge facing BTC in the DeFi market," Xiaowei also believes that the cost of use will also cause some people to give up pledging BTC, "because each ERC-20 BTC has a specific purpose and scenario. When users use BTC to participate in DeFi, they need to cross-chain. The conversion between different formats will cause BTC to be unable to be smoothly mapped on Ethereum, which increases the friction cost."

Although the current solution is not optimal, Xiaowei is still optimistic about the prospects of Bitcoin in DeFi applications. He believes that the DeFi market needs high-quality collateral assets, and BTC hoarders can earn income on DeFi. The integration of these two ecosystems will achieve a win-win situation.

According to his observation, DeFi's rich innovative projects and high returns continue to attract more BTC-anchored assets into the Ethereum DeFi ecosystem. This trend is growing rapidly and is still continuing. Most of the BTC-anchored assets enter smart contracts, participate in staking mining, lending, and enjoy corresponding returns. "This flow trend further broadens the application scenarios of Bitcoin. Locking in DeFi protocols to participate in decentralized finance also reduces the circulation of Bitcoin, which objectively supports the deflation of BTC prices."

As of November 15, the locked amount of wBTC reached 1.99 billion US dollars, ranking third in the DeFi protocol TVL ranking, second only to Uniswap and MakerDAO. BTC, which maintains an upward trend, is pouring into DeFi.