Reference rates have long been a cornerstone of traditional finance (tradfi), an underlying billions of financial instruments. Benchmarks like Libor and Sofr play a crucial role in determining loan and loan costs. However, these references were faced with their criticism for their centralization and their vulnerability to manipulation. In particular, in June 2012, Barclays admitted to having manipulated Libor, which resulted in a regulation of $ 450 million with American and British regulators. Although Sufr, as a night rate, solves some of Libor’s problems, he always faces centralization problems, while the American federal reserve oversees its publication. Despite these challenges, the Tradfi fixed income securities market continued to thrive, becoming the greatest class of assets in the investable universe.
On the other hand, the fixed income market within the crypto is fragmented and opaque. Sources of yield, such as stimulus, borrowing rates and financing rates are very volatile, vaguely correlated and often poorly understood. This lack of clarity has hampered the growth in fixed cryptographic income space.
A potential solution? Establish an infrastructure for decentralized reference rates similar to those that exist in Tradfi, but more robust. In crypto, we could decentralize the forecasting of these reference rates, incorporating the fundamentals of the mechanisms of Oracle where precise predictions are rewarded and that inaccurate predictions are reduced. In this way, the reference rate combines elements of both the methodology focused on the opinion of Libor and the approach based on SFR transactions. By decentralizing the process, we could alleviate the risks of centralization and reduce manipulation potential, guaranteeing equity in the way reference rates are determined.
Fixed income securities fixing with FRA
Reliable references are essential to build new crucial financial derivative markets so that DEFI to mature and grow. In particular, term rate agreements (FRA) and other fixed income derivatives could be developed using stable benchmarks to cover the risk of interest rate more effectively. In Tradfi, FRAs represent approximately 10% of the total theoretical amount of the world fixed income market. To put this in perspective, about $ 116 billion in ether are currently punctuated. The capture of only 10% of this market via the FRA represents an opportunity of $ 11 billion, highlighting the potential of reference rates in unlocking of the fixed income market of DEFI.
So what are the FRAs?
The term rate agreements (FRA) allow participants to lock future borrowing or loan rates, which reduces exposure to volatile market conditions. Think of a long -term contract, but instead of locking the price of an asset, you get an interest rate – similar to the reservation of an agreement for the future. For example, if the current staging rate for ETH is 3.2%, a FRA would allow you to obtain this rate for a future date, making your return on investment a deterministic percentage.
The implementation of reliable benchmarks could unlock the next evolution of DEFI – which is not motivated by speculation, but by structure, scalability and institutional quality infrastructure.
Interested in this concept? Find out more about the potential of FRAs in the rest of the article here.
