Proposal: add self-insurance to yETH vault

Summary:

Include a ETH:DAI Balancer pool in the yETH vault to both insure the ETH Maker vault and reopen deposits into the yETH vault.

Abstract:

Should this proposal be implemented, a small subsection of the yETH vault will be delegated to a ETH:DAI balancer pool to serve two functions. The first function of this pool would be to provide insurance natively to the yETH vault in the case of a black swan event, e.g. DAI losing its peg. The second function of this pool would be to reopen the vault to allow new deposits of ETH by shunting excess ETH into this pool.

Motivation:

Currently the highest risk vault in yearn.finance is the yETH vault. The vault takes deposits of ETH and puts them in a Maker CDP vault, mints DAI, and then deploys that DAI to become working capital and provide a return on investment. However, this is an inherently risky venture, as it takes out a loan of theoretically stable value (DAI) against a volatile asset as collateral (ETH). Should the value of the loan exceed the value of the collateral, this will cause a liquidation of the vault and generate a loss against the depositors. Furthermore, due to various limitations, the yETH vault is no longer open to new deposits, with an unknown date for reopening. In another post (Proposal: the yETH-YFI-BULL strategy) Aliatiia (unsure of capitalization, apologies) themself noted this risk vector for the yETH vault and proposed the generation of a new vault to (in part) provide insurance to the yETH vault. I believe while vaults should complement each other, they shouldn’t be interdependent upon each other.

Specification:

Should this proposal be enacted, a new subsection of the yETH vault would be created in the form of a ETH:DAI pool on Balancer (though Uniswap/Mooniswap also have their benefits and I believe this can be debated further). This new pool would provide two core functions: providing insurance against black swan events, and increasing the deposit cap for the vault. For the insurance part, this ETH:DAI vault would significantly reduce the risks of liquidation of the ETH Maker CDP. In the case that DAI loses it’s peg and starts to increase in value, the pool will accumulate fresh ETH as arbitrageurs come in to equalize the distribution. This fresh ETH could then be used to increase the collateral of the Maker CDP and mint new DAI at a value below market rate. On the other hand, should the value of ETH increase, we will increase the amount of DAI at the vault’s disposal to apply to the strategy. Lastly, in case of a full-blown market meltdown, this pool would act as a “break glass in emergency” safety valve to be unwound from Balancer, providing the necessary capital to save the CDP from liquidation. As a bonus, Balancer would provide BAL distributions as further yield, which can be sold for ETH. I would recommend a higher swap fee, over 1%, to reduce the impermanent loss on the pool while still allowing for a robust trade volume.

The second use case of this pool would be to increase the limitation on the amount of ETH able to be deposited. Currently, no new ETH is allowed to be deposted into the vault for various reasons dealing with Curve and Maker, which may hopefully be resolved soon. However, should this proposal be implemented, we could immediately allow fresh capital into the vault, boosting the overall health and value of the yearn.finance ecosystem. The new capital would be diverted to this Balancer pool to provide self-contained insurance against the rest of the Vault. This would potentially decrease the overall yield for the vault as a whole, but it would allow for investors to be more confident with their deposits. I believe that ~15-20% of the total vault could be housed in this safety net without significant impact to the overall RoI of this vault.

For: Create a ETH:DAI Balancer pool as part of the yETH vault to insure against black swan events and avoid liquidation.

Against: Idea without merit. No change. Burn the witch.

Needs Discussion: Idea has merit, but not as specified. Discuss in below comments.

Poll:

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