Volatility and Yield Farming

The wonderful thing about Yield Farming is yields are typically high when trading volumes are high; whether the market is moving up or down. This is because yields generally come from two sources; trading fees and native rewards.

Trading fees are generated for liquidity providers (yield farmers) each time a person uses the liquidity pool to swap between the tokens within the liquidity pool. Eg. When the person using the pool to swap some FTM for USDC, they pay a fee of ~.25% for the swap, where most of that fee is distributed to liquidity providers pro-rata to the amount of liquidity they provided into the pool. Therefore whether there is a lot of trading because prices are trending up or down, the end result is high trading fees paid to yield farmers.

Native rewards are typically the governance token of the DEX which is providing the liquidity pools / yield farms. These native rewards tokens provide a ‘boost’ to the APR which would otherwise only be based on trading fees. The YieldFi market neutral protocol converts all the native reward tokens back into the token being used as collateral (thereby auto-compounding the BTC, USDC, ETH), which can then be used to borrow more tokens to farm with.

Where volatility can have an adverse effect is when the volatility is high in relation to only one of the two tokens being farmed. We are currently seeing this for any yield farms which involve a stable coin, as the other coin has likely dropped significantly in a short period of time. During these extreme times the IL can outweigh the rewards earned (even though the headline APR is high due to the higher trading fee revenue). During bull markets this can also be the case, however directional yield farmers care less, because the value of the tokens they own are also going up, so in fiat terms they are probably still winning (just less as compared to holding the tokens in their wallet). Having said this, as mentioned above, time in each yield farm plays a direct role in the end result as the two tokens being farmed can decouple as quickly as they can recouple creating two very different outcomes for the end user depending on when they decide to exit the yield farming position.