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Terra Autumn Series Ep. 7: Introducing Ultimate Composability, Refracting Digital Assets with PRISM

Dec 14, 2021 · 66 min media

By Jose Maria Macedo

Head of Delphi Labs Jose Maria Macedo sits down with Hyperion, General Manager of PRISM, a protocol that “refracts” digital assets into yield and principal components, enabling the next level of DeFi composability. The two discuss the potential of interest rate derivatives in crypto, projections for principal and yield tokens, the composability of these refracted assets, and much more!

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Delphi Podcast hosted by Jose, with Hyperion on Prism

00:57 • Jose
Hi everyone. Today, I’m thrilled to be hosting the GM at Prism.  has a long career in TradFi where he spent time doing fixed income at JP Morgan and other American investment banks. He is now helping contribute to Prism, a Terra-based protocol which enables users to split their digital assets into yield and principal components thereby expanding the surface area for composability and allowing for a range of interesting use cases which we’ll explore in this podcast. , thanks very much for joining me. 


01:24 • Hyperion
Thanks very much for having me. I appreciate it. 


01:26 • Jose
First of all, could you start by giving us a quick description of your background and how you got into crypto? 


01:33 • Hyperion
Of course. I spent all of my career in finance and mostly in fixed income. I initially came at crypto through a “macroeconomic, fixed supply of Bitcoin” narrative. Having invested in stocks and bonds, it became clear to me that what was driving value in these growth stocks wasn’t only future earnings potential but also devaluation of fiat currency, which is, for most people, the denominator that everyone uses to measure their returns or their wealth. After spending a lot more time on that and getting fascinated with DeFi in the middle of last year it…it blew my mind – some of the things you’re able to do like borrow and lend and that’s all governed by smart contracts. In many cases with these protocols, 100% of the revenue generated is being paid out as a profit on a block-by-block basis. 


02:28 • Hyperion
That was a real light bulb moment for me. Having invested in stocks where you have to wait for the management board to approve a quarterly dividend to shareholders, which can only be a tiny fraction of the revenue earned, DeFi was this big light bulb moment. These were real protocols with real cash flows that could actually be analyzed and valued. That brought me on to crypto. I came across Terra and LUNA towards the end of last year. It resonated a lot with me because, regardless of many of the problems with fiat currency that a lot of people in crypto understand, we still all have real world expenses in fiat. We still are all potentially looking at buying houses or cars and using fiat to denominate our wealth and to denominate our crypto returns. So, people need a way to hold fiat in a self-custodied and censorship way. 


03:27 • Hyperion
That’s a big reason why I gravitated towards Terra. I’ve seen the financial markets impact of capital controls in Greece where people weren’t allowed to remove their own money from the bank. The value of that currency was getting destroyed. I was on the trading floors when that was happening. It was crazy and really sad to see. This is absolutely a risk people are taking when they buy centralized stable coins such as Tether, Circle, or DAI, which are all basically just an IOU on some amount of dollars held in their bank account. I think that’s why I  gravitate towards Terra. It was clear to me in the financial markets that describing a stablecoin as one-to-one backed… if you’re taking a physical dollar off of someone and then issuing them a stablecoin dollar in return, and then using that physical dollar they gave you to buy extremely risky commercial paper… 


04:16 • Hyperion
I’ve seen and traded firsthand when commercial paper that’s meant to represent a dollar is priced very below a dollar. So, Terra for me solved a lot of these problems on self-custody and censorship. That’s why I gravitated towards Terra and the fiat stablecoins that Terra produced. Obviously, with a fixed income background, Anchor Protocol was amazing for me to see. Suddenly, you have self-custodied and theoretically censorship-resistant stablecoins that were able to pay you a 20% yield. After the mass liquidations in May last year, it became clear to me that most people were doing borrowing backed against the value of their assets rather than actually…One of the amazing characteristics of DeFi is this yield you can get, and people weren’t really securitizing or trading the yield. 


05:07 • Hyperion
They were only taking loan-to-value risk. It got me thinking about how I could isolate out yields (which is something that happens a lot in TradFi with coupon stripping) and started thinking about all the different implications that this could have. That took me to putting pen to paper and sending Do Kwon the outline of an idea. I was lucky enough that he was interested and agreed to help me build it. That’s a bit of a round trip of how I got to where I am now basically. So, we’ve been building Prism ever since. 


05:41 • Jose
That’s awesome. When you were looking at crypto, were you looking at it with the intent of,  “Maybe I want to build something,” or when you started looking at DeFi, were you interested straightaway in building something, and then you came across Terra and it clicked?  How did you decide to build something? 


06:01 • Hyperion
It’s one of these things where, if you’re working in really large organizations and you’re investing in stuff where 100% of revenue isn’t going through immediately through to profit and shareholders, and you start seeing what’s happening in DeFi, it’s just that moment where you’re think, “TradFi is a declining industry. DeFi is something that is truly exciting and innovative.” It was amazing just to understand it. I’m sitting there as a TradFi guy thinking to myself, “What value can I add? I’m not a developer. I’m not a smart contract guy. What am I going to be able to do here?” So, you doubt your own abilities initially. I didn’t specifically have the intentions of doing something, then I realized that it was something that I really wanted to focus all my time on in one capacity or another. 


06:55 • Hyperion
I wasn’t expecting much back from Do when I sent him the idea. Once that all starts, and you start the process,  you realize that there is a huge need for people from loads of different backgrounds to come into DeFi because, as everything moves on-chain, expertise from all over is going to be relevant. It’s not just about whether you have smart contracts or experience or not. It was a happy accident to build something, but I knew before that I wanted to be involved in DeFi 100% because it’s so exciting. 


07:25 • Jose
That’s really cool. Before we get into Prism, I think it’d be cool to explore the idea of  interest rate derivatives in traditional markets. You mentioned Prism is splitting a token into its principal component and into its yield component, which we can get into that more in detail later. I’d be interested to understand what are interest-rate derivatives, and how do they work?  How do they work in traditional markets? How did you use them? Just to give some background for the listeners…


07:52 • Hyperion
One of the fundamental things that I don’t think people realize is that everyone’s exposed to interest rates ,whether you know it or not, one way or another you are exposed to interest rates. I think the simplest thing is that most people know that a dollar now is worth more than a dollar that they would receive in a year. A dollar in a year is worth more than a dollar that they’re being told that they’re going to receive in ten years time. The main reason for this is interest rates. In very simplistic terms, if I have a dollar now I can invest it in a bank account and it’s going to be worth more than $1 in a year or $1 in 10 years. That’s the basis of interest rates and how they work. Then, everyone who is ever expecting to pay or receive any future amount is exposed to interest rate risk, whether this is your salary your pension, mortgage payments, credit card debt, car loans, etc. 


08:49 • Hyperion
The same thing goes for any companies that have future income or expenses that are also exposed to interest rate risk. It touches everyone in one way or another. An interest rate derivative is a financial instrument where the value is linked to movements in those underlying interest rates. These can include lots of different things like futures options or swaps. Interest rate derivatives are often used as hedges by institutional investors in order to swap from fixed rates to variable rates, or vice versa, that can be used by banks and companies or they can be used by individuals to protect themselves against market interest rates. That’s a bit of a background on how the derivatives markets work. Previously, these kinds of things were only available to institutional investors with ISDA. ISDA is a contract that allows you to trade derivatives with mostly investment banks or with other sophisticated counterparties. Your average retail investor person is excluded from this market and is unable to  trade these derivatives and would have to go to a bank if they wanted to do that for them. 


10:02 • Hyperion
In terms of  how they’re used, they’re most often used to hedge against interest rate risk or to speculate on the direction of future interest rate moves. So, if the Fed is making a big policy decision about what they’re going to do with underlying interest rates, or if the Bundesbank is doing something similar in Europe, huge volumes of interest rate derivatives will trade as people try to speculate or protect themselves against what the potential outcome of these rate decisions is going to be. It is an enormous market. Interest rates kind of exist as these interest-bearing assets such as loans or bonds, and due to the possibility of the change in the assets value resulting from these interest rates, (which is what we discussed before where a dollar in the future is worth less than a dollar now) interest rate risk management has become a crazy important part of TradFi and that’s why  these instruments that we discussed have been developed, to help people allow that. 


11:05 • Jose
Could you walk through one example of someone using this to hedge? Is it like, “I have a loan, and maybe the loan is variable interest rate, and I have a razor-thin margin business.” I know you said they’re used by banks, or maybe you can use an example more in that context, but I have a razor-thin margin business. I can’t afford for the cost of interest rates to go up. So, I swap the variable rate for a fixed rate. I then pay a slightly higher fixed rate to compensate for the extra risk that someone’s taking. Someone else takes the extra on top. Is it something like that? 


11:39 • Hyperion
Exactly. One thing that hopefully lots of people can relate to whether they’ve had a mortgage themselves or whether their parents and family have had a mortgage is, when you sit there and you get your mortgage you’re on a 75% or 60% loan-to-value mortgage (and I hope mortgages work like this globally…in case I didn’t mention earlier – my dodgy accent is from the UK, so maybe this might be a bit of a UK centric example)…If I am taking out a mortgage, the bank might say to me, “The variable interest rate at the moment is 1% and you can take that out for your five-year mortgage, or, we can offer you a fixed rate at 2%.” You as an individual have to make a decision there about whether you’re going to fix your rate and guarantee the rate that you’re going to pay or whether you’re going to take this variable rate. 


12:35 • Hyperion
If the Bank of England or the Fed or whoever increased rates then you could end up paying a higher rate of interest. As an individual person, that’s how you can take exposure to interest rate risk or to hedge your interest rate risk. Behind the scenes, the bank who gives you the mortgage will be trading these interest rate derivatives for all their millions of clients to hedge out this risk. Hopefully that’s an example that most people will feel familiar with, where they’ve had to make a decision about whether they want to fix or float their rates basically. 


13:08 • Jose
That makes sense. In the crypto case, which we’ll get into, it’s becoming a derivative that’s tokenized. In TradFi, is it a synthetic instrument? Does it have a price?  Kind of a weird question, but I’m quite interested in understanding how it works. 


13:30 • Hyperion
I’d classify it as either fully-funded or margin. Fully-funded are these initial examples that we’re creating with Prism where you’re tokenizing it and all of the yield is represented in one token. In TradFi, you can have exactly the same thing. You can coupon strip something and all of the present value of the yield is held within one contract. But also, then you have this element where these can be traded on huge margin, e.g. huge derivative instruments where you can put down one to two basis points to five basis points and be trading billions and billions a side of exposure on this by only putting down a very small amount of margin. To my view on it, I do think that over time, DeFi will have… we’re starting off with these fully funded instruments that we’re creating… but over time, allowing margin speculation on interest rates is going to be huge in DeFi as it is in TradFi


14:36 • Jose
We’ll definitely get into that later and how that would work. Could you give people an idea of how big this market is? I don’t think people realize just how big the interest-rate derivatives market is in TradFi.


14:50 • Hyperion
Because we’re discussing  that everyone’s exposed to it, whether you’re an individual or whether you’re a company, a sovereign wealth fund, a government, pension fund, hedge fund, asset managers,… all those kinds of people are all exposed to interest rates, so it’s probably the biggest market in the world. Currently, it’s around $600 trillion worth of notional exposure out there in interest rates swaps. I think they trade around 7 trillion a day. It dwarfs stocks, bonds, and everything else. 


15:25 • Jose
That’s crazy. Out of curiosity, I understand the hedging use case – who are the main counterparties for whom it makes sense to go super long interest rates? Who are the degens 2000x longing?


15:38 • Hyperion
The biggest degens are hedge funds, if we’re just being honest. The alternative asset management industry has a huge risk propensity. When you have pension funds that want to be ultra-safe or people that want to banks they want to be ultra-safe on the mortgages that they’re doing, and they’re happy to pay quite a big premium to fix their rates, hedge funds are really happy to take the other side of that a lot of the time (and speculate on interest rates and take exposure to yields). They’re the equivalent of DeFi degens in TradFi now. 


16:15 • Jose
Everyone’s kind of long rates anyway, right? If you’re investing in equities or crypto or whatever… It’s an interesting one that people are taking even more exposure to that. Is there anything else you want to cover on the traditional interest rate swap market that you think people should know that would help them understand Prism? Or should we move on to Prism? 


16:36 • Hyperion
I think that’s good. Once people can conceptually understand how interest rates touch their life, then hopefully it becomes a lot more relevant what we’re trying to do with Prism and DeFi. 


16:49 • Jose
Turning to Prism, could you walk us through the idea behind it and how it works?


16:55 • Hyperion
Building on what we discussed around interest rate risk, DeFi users have the same issue. They’re exposed to volatile yields and volatile prices just like users in traditional finance. In most instances, it’s a lot more volatile and a lot bigger fluctuations that they’re getting at the moment. Currently, there isn’t really a way to manage these risks at all or to speculate on them. That’s what we’re trying to build with Prism. At the moment, for the most part, DeFi is a spot asset.You don’t really get fixed maturities. You get perpetuals but they’re non-maturing. As DeFi matures, the same way that you have bond curves for the United States treasury, like the two year, five year, ten year…


17:45 • Jose
Can you explain a bond curve for listeners that don’t know how that works? 


17:49 • Hyperion
A bond curve, in really simple terms as it works for government, is that governments need to fund their ongoing expenses. They have a couple of ways of doing that. One is through taking tax receipts off of people. Another way of doing that is by borrowing. A government, in order to raise funds, will say to people, “If you give us X billion dollars, we will pay you this interest rate and we’ll pay you back your X billion dollars in a year.” So, bond curves are formed when a government will say, “We want to borrow money for two years. We also want to borrow money for five years and we also want to borrow money for ten years.” If you’re lending to the government for 10 years, you’re going to want a higher interest rate to compensate you for the fact that you’re tying up your capital for 10 years. You’ll take a slightly lower interest rate for five years and you might take a lower interest rate than that for two years.

 

18:43 • Hyperion
This is how bond curves are formed. The bond curve tells you what rate you’re accepting for two years, five years, and ten years, in very simplistic terms. I think we’re going to start seeing that in DeFi, where, in the future, people will want to know, “What’s my yield if I lock up Ethereum for five years or lock up DOT for 10 years?” or whatever it ends up being. These bond curves are some of the most liquid instruments in the world. Basically, every single country has a bond curve that issues that debt. The same thing happens not only at a country level but at a company level. We might look at Nike or Apple or Amazon. All of these issuers have a bond curve and they’ve borrowed money for maybe two years, five years, ten years. 


19:38 • Hyperion
For every single company, you can see what the interest rate is that the market is demanding to lend to them for ten years or five years. As the quality of the company and the probability that you’re going to get paid your debt back in ten years time is better, e.g. for really high quality companies like Apple or Amazon, people aren’t going to demand much interest rate, but for very speculative companies, people are going to require to be paid a lot more interest rate to effectively lend to those companies for ten years. I think that’s one of the things that really happens in DeFi at the moment, is that you see these huge yields, and these huge yields are there because the underlying assets are lower quality than the high quality assets which are Solana, ETH, DOT, LUNA. That’s why you see lower yields on these assets than you see on the latest BSC farm that’s paying you 8,000,000%.


20:33 • Hyperion
People are going to demand a higher yield on a BSC farm because the risk is significantly higher than. That’s the whole founding basis of what we’re working with on Prism. 


20:49 • Jose
Crypto protocols aren’t going to be borrowing for two years, five years, ten years… they’re going to be paying maybe a staking yield or there might be a yield on money markets for lending on them…so what’s the equivalent in crypto? Is the yield curve just generated by how much people are willing to sell their future yield for on Prism or how does that come about? 


21:14 • Hyperion
The original side of this is going to be the supply side. As a holder of a LUNA token, for example, I have a choice of whether I want to borrow against that asset to raise money and have liquidation risk or whether I’m thinking, “Why don’t I sell you a year’s worth of my LUNA yield?” And, you’re going to make a price to me at which you’d be happy buying a year’s worth of LUNA yield. Eventually, the market will make a price. That’s how the yield curve will come about, because you’re going to make me a different price for a year, for six months, for two years, etc.  That’s how a trading curve will start generating in these assets. 


22:04 • Jose
Before we go more into that, could you walk through, with LUNA as an example, the user journey of someone on Prism, to help people understand the step-by-step?


22:16 • Hyperion
If you are to participate in Prism, you’ll take your LUNA token and you will put it into Prism and Prism will automatically stake the LUNA token from its vault where it’ll start earning airdrops and staking rewards. What you’ll be issued with a cLUNA token (which is a collateral token which represents your ownership of the underlying LUNA in the vault) – you can then refrack that LUNA token into a principal token and a yield token, and you’ll receive both tokens. What your yield token does is it gives you the right to all the cash flow generated by the corresponding amount of LUNA that you just put into the Prism vault. What your principal’s token does is represents the underlying ownership of that underlying asset in the vault. You’ll then have these two tokens, your P token and your Y token, and you’re free to use them as you want. You can be a liquidity provider or you can lend them out in money market protocols or you can trade them. 


23:28 • Hyperion
The user journey should actually feel very familiar to people from what they’re doing in Anchor. It’s just one extra step of splitting your bLUNA token into a yLUNA and pLUNA.

 

23:41 • Jose
Makes sense. To reason about that, how do you expect pLUNA and yLUNA to be priced and what do the relative prices tell us? The two have to add up to the price of LUNA, right? Otherwise there’s an arbitrage opportunity that opens up…but I’m curious, could you walk us through an example of how you think they’ll be priced and what the prices actually mean.


24:05 • Hyperion
(All the usual caveats that this is not financial advice, do your own research, all that stuff. These are just my thoughts so if I’m wrong don’t hold me to that) The first question is what are the fundamental drivers of LUNA as a whole’s price? And, that is the burning expectations of LUNA. So, in that situation pLUNA would be the disproportionate beneficiary of that because that doesn’t affect the yield as much. So, yield expectations: if people think there’s going to be huge yield generating events for yLUNA then that’s going to disproportionately benefit yLUNA. Obviously, on any of these assets there’s speculation and market beta which pLUNA would be a bigger beneficiary of. Then, we touched on it earlier, but the discount rate and risk-free rate that people use to discount their future cash flows… 


25:00 • Hyperion
So, if I’m receiving my yLUNA yield in a year’s time or two year’s time, if discount rates change or the underlying interest rates change, then the value of that future cash flow (i.e. that future dollar that I’m going to receive) changes a lot. Obviously, that is going to impact yLUNA more than it’ll impact pLUNA. I think talking about that – it’s going to be really interesting. A lot of the pricing on it – what I would actually caveat – is a lot of the pricing of this is going to depend on what interest rate people use to discount future cash flows. So, if I’m going to receive my LUNA yield over the next year, (if I’m using the yield on U.S. government bonds then I’m discounting things a very small percentage) but if I’m a DeFi user then I’m probably discounting things at the yield on Anchor, which is 20%


25:49 • Hyperion
That really changes the picture of what the actual price of the yLUNA and pLUNA token should be. With all that having been said, in very simplistic terms – the pricing of the yield instrument is the yield divided by the discount rate. If people are going to use the Anchor discount rate (i.e. 20% yield on your dollars at the moment) and use that as the effective risk-free rate in DeFi, then at current yields that probably puts the price of a yield token and a principal token both at 50%. You might see a yield token trade at half the price of a LUNA token because yield token plus principal token must roughly equals the price of LUNA, otherwise there’s this arbitrage that you mentioned. That means that the principal token must also be at 50%.


26:44 • Jose
How come? Because the yield on LUNA is 10% right now, right? How do you work out the 50%? 


26:50 • Hyperion
Say the Anchor rate is 20% at the moment. The yield on LUNA, for argument’s sake, let’s just say it’s 10% for round numbers. So 10% divided by 20%. 10% divided by 0.2 gives you 50%. Effectively, because it’s 20%, you  times the yield by five and that gives you what the value of that perpetual cash flow or yield should be worth.


27:24 • Jose
Okay. Makes sense. The price movements as you mentioned reflect people’s expectations about future yields. So, if they think there’s a huge burn coming or for some reason the UST is going to grow a lot and that’s not priced, then the yield token would trade higher. By association, the principal token would trade lower. 


27:47 • Hyperion
What’s been happening in LUNA recently is a great example. There’s this big partnership with $Spell. If people were able to anticipate that they might think, “There’s going to be a huge burning event. A result of a lot of that burning is that LUNA yield isn’t going to change significantly, but LUNA price will.” They might have decided they wanted to own more P-token. Recently, with LUNA, there was an event where the community pool was burned which was 80 odd million LUNA. As a result of that, a huge amount of fees were generated for LUNA stakers which was a huge event for LUNA yield, and LUNA yield has nearly 3X’d as a result of that. If you’d held the yield token, and the market hadn’t been expecting that event to happen, your yield token would have massively benefited compared to your principal token. 


28:45 • Hyperion
It allows you to speculate on things like that. For example, not to get too specific on LUNA, but LUNA rewards that have accrued are paid out over two years at the moment. That recently changed from three years to two years. If there was an event where there was a proposal to move the LUNA yield rewards from two years to one year, effectively doubling LUNA yield, then again that’s the kind of huge event that people might speculate on that would really benefit the yield token rather than the principal token. There’s lots of different dynamics at play with each of these tokens that they’re going to make them really interesting for people to trade. 


29:26 • Jose
It also gives you a lot more information, right? It makes the market more efficient. It allows you to figure out what the market’s expecting actually in terms of  yield growth, right? Going into some  potential use cases, one of the things that you mentioned in our first talk which was really interesting is the idea of leverage and the principal token representing cheaper leverage than just holding LUNA. But there’s other use cases too. Maybe we can walk through for both the principle token and the yield token, what it means to be long and short it, so people can reason about the different exposures. 


30:04 • Hyperion
If you have a hundred dollars, you have a choice of buying one LUNA or you have a choice of buying a hundred dollars worth of yield token or a hundred dollars worth of principal token. If you’re expecting LUNA’s price to go up significantly,… then if we use the examples before where we expect the LUNA principal token to trade at half the price of the LUNA token and as a result of the LUNA yield token is also trading at half the price because two halves make a hole… If you’re expecting LUNA price to go significantly higher than the LUNA token valued at $100, the LUNA principal is valued at $50 and LUNA price goes 10X, LUNA’s yield doesn’t change. 


30:58 • Hyperion
The LUNA yield token is still valued at $50. If you just own LUNA, you would have made 10X. You would have gone from $100 to $1000. Whereas, if you owned the LUNA principal token, you would have a $1000 minus the $50 value of the yield token. You would have gotten from $50 to $950 and made a much higher return. And, it’s a similar thing with LUNA yield. If you expected LUNA yield to increase significantly, you might want to buy the LUNA yield token. If  LUNA yield doubles, for example, then you’re going to get a much bigger outsized return on your LUNA yield token. The yield token valuations is a bit more complex on LUNA because you have all these different components of LUNA which have LUNA yield which are staking rewards in multiple different stablecoins and also LUNA itself. 


31:53 • Hyperion
That gives you an example of how you can take this leverage to LUNA’s price or leverage to LUNA’s yield without taking any liquidation risks. You can isolate exactly which opportunities or risks that you want to take. It gives you a lot more freedom and flexibility. 


32:10 • Jose
Won’t that always be a cheaper way to get leverage to LUNA then a perp, for instance? If you had a perp for pLUNA, wouldn’t that always be a cheaper way? Because with a perp you’re not getting the yield anyway, but you’re paying full price. Or, am I thinking about that incorrectly? 


32:31 • Hyperion
I agree with you and I think there’s going to be something I think there’s going to be some really interesting integrations when some protocols start using pLUNA as the underlying token rather than LUNA because baked into LUNA’s price is going to be the yield that you’d get if you staked LUNA. This is going to allow people to take a much more isolated risk in a much more capital efficient way. Obviously, in our example where pLUNA is trading at 50% of LUNA price, you’re getting just under two times leverage, but, obviously, then if there’s a perpetual platform that’s offering you 20 times leverage on top of that, then you then it’s going to be a really interesting way for people to isolate exactly the price exposure or exactly the yield exposure that they want to take. I think it will be really interesting. 


33:21 • Jose
It feels like it would almost make more sense as a trader to trade the perpetual for pLUNA, right? Because you’re not getting the yield anyway…


33:30 • Hyperion
Say, for example, we do a one year token, and say the one year LUNA yield token, just for argument’s sake, is trading at 10% of LUNA price. That means the principal token must be trading at 90% of LUNA’s price. A really popular trade in DeFi at the moment is the cash and carry trade where you will  buy spot LUNA, for example. If there’s been huge demand for the perpetuals then there’s a really big high funding rate. So you’ll buy LUNA, then sell the perpetual. When the funding rate comes down you’re going to end up locking in that profit of the funding rate you’ve taken in over that time. It’s going to be much more capital efficient to buy a LUNA principal token at 90 and then sell the perpetual. You’re then also looking at that extra 10% over a year because, at the end of the year, you’re going to be able to reclaim your original LUNA back. It’s more capital efficient and you’re going to get a much high yield or IRR as a result of that. 


34:34 • Jose
In the lite paper you also mentioned the expiries –  how does that work, and is that going to be live from the beginning? For instance, if you had a one-year yield token then you’d have to have a one-year C Token as well right? At that point, would it have to be redeemed? Or, what if it was being used in a perp platform? 


35:03 • Hyperion
For V1, we just want to launch with perpetuals. Conceptually for people, that’s going to be a great introductory instrument to Prism. The aim is definitely to start spinning up these maturities. Your collateral token will always  be a collateral token and it won’t actually ever have an expiry. You can then choose whether to split that collateral token into a three-month YT or PT or a six-month YT or PT. Basically, then people are going to be able to choose which term they want to do. At the end of that term, once your three months or six months is up, your yield token will no longer have the right to any yield, and you can swap your principal token back for a collateral token. You can either redeem your original collateral or you can mint a PT or a YT for a new term if you want to. 


36:05 • Jose
Why do you think it makes sense to do that at the Prism level versus having, for example, a fixed-income protocol on top where you can take your perpetual P-token and your perpetual Y-token and put some term on it to lend it to people? Would you not be able to recreate the same exposure with that? 


36:26 • Hyperion
I think stuff getting re-hypothecated and having cash settlement of derivatives – I definitely think DeFi will go that way, probably using oracle prices of these yield tokens that we create. In the first instance, I think you have to create the products that allow people to give the true value that people are prepared to pay to actually physically receive LUNA yield or DOT yield or SOL yield. In the future, I see it going in a direction where perpetual derivative protocols use oracle reporting of LUNA yield token prices to allow people to speculate in big size on those. 


37:14 • Jose
To finish up the previous thread:  if someone is long the principal token, they’re also necessarily short the yield token, right? So if yields go up, the price of their principal token can go down, right? 


37:28 • Hyperion
The way I would probably describe it best is: people are familiar with CDP collateralized debt positions that you have on MakerDAO, for example, or on Mirror Protocol on Terra. What really happens is, in really simple terms, if you want it to be a user and you just wanted to have 100% exposure to LUNA’s yield, you would spend all of your dollars on yLUNA. Or, if you want it to have 100% exposure to all of LUNA’s price, you would spend your hundred dollars on pLUNA. Or, if you wanted to have two staking derivatives where you can earn LUNA’s yield but also earn additional yield on top of that but still have your full, consolidated exposure to LUNA, then you’d just keep your principal token and yield token and use them as you wanted. 

38:12 • Hyperion
Where it gets really interesting is when you start talking about shorting. If I held LUNA but I thought LUNA’s price was going to go down, I could use my LUNA to mint pLUNA and yLUNA and then just sell my pLUNA in the open market with the expectation of buying it back. In order to close out my collateral, my CDP position effectively in this example, I would have to buy my pLUNA back at a lower price. The same thing can happen with yields. In a way, it allows people to go leveraged long or leveraged short the exposure of the underlying asset if that’s what they want to do. 


38:54 • Jose
It makes a lot of sense. Switching gears a bit, I know your initial product is pLUNA and yLUNA, and we’ve spent a lot of time on that – are there other tokens that you’re also excited for Prism to integrate that you think makes sense? 


39:07 • Hyperion
The feedback we’ve been getting, and something we think as well, is that getting Layer1 assets reflected into perpetual yield and perpetual principle instruments is going to be pretty exciting. So, ETH, SOL, DOT, ATOM are really high on the to-do list. With Wormhole and IBC this is going to be a much easier task to do. I think building out the yield curve on those, e.g. thee three-months, six-months, nine-months, twelve-months, etc. is going to be really interesting. 


39:39 • Jose
How are you doing that? Are you using existing stake derivatives like the LDO ones? Are you building it so that you’re staking it yourselves?


39:50 • Hyperion
The initial iterations will probably be using LDO derivatives like staked SOL, staked ETH, staked DOT I know is in the making at the moment. The plan is to use staking derivatives to start off with. SOL’s coming to Terra pretty soon via BSOL for Anchor. Staked SOL is coming as well over Wormhole. They’re going to be in the ecosystem anyway, so I think it makes sense for us to use them in a first instance. Maybe later on we can look at whether we want to natively stake on each blockchain to create it from there. Using the LDO assets or other staking derivatives to start off with is going to give us a faster route to market for people that want to speculate or manage risks on these. 


40:43 • Hyperion
The other really interesting potential use cases are things like LP tokens which we’re really excited to refract because, at the moment, if you’re a liquidity provider and you stake your LP tokens, you’re exposed to the price of the underlying instruments.You’re also exposed to impermanent loss. You’re exposed to the AMM fees generated by the trading volumes and the liquidity incentives provided for staking your LP tokens. Refracting LP tokens is going to allow users to choose which risks they want to be exposed to. It could be extremely useful for protocols. We believe it can help solve some of the mercenary capital farming issues and means that liquidity incentives can actually end up in the hands of people that want to be exposed to their token. It’s also going to allow people to take leveraged exposure to the intrinsic price of the underlying assets in the liquidity pool and the associated AMM fees or to take leveraged exposure to the yield that’s being offered for staking your LP token. That’s what I’m super excited about. 


41:51 • Jose
Some of the 40 chats* that’ll be happening with people buying the yield token and then using their VX Astro to vote issuance to their pool and pumping their yield token is going to be pretty maddening to see. It’s cool that this exists. What about Anchor? Anchor right now is a fixed deal but the idea from the beginning was to move to a yield that’s not very volatile but it does move quarter to quarter based on some indicators, right? Would there be a possibility for a kind of aUST to also be split into its yield component and its principal components somehow? 


42:31 • Hyperion
aUST is something that’s a really high priority for us because I think it’s such an interesting instrument.


42:38 • Jose
It’s kind of like building Alchemix if you do that, right?


42:42 • Hyperion
There’s a protocol on Terra which is doing something similar to Alchemix called Kinetic which is offering you these self-repaying loans, like Alchemix is. I guess the difference between our protocol and Alchemix, for example, is…aUST you can’t create perpetual instruments on – you’d have to create maturity instruments on. You would sell your aUST yield for six months or nine months or twelve months or three years or something like that. It opens up these really interesting things where, if I wanted to raise money against my UST, say I have a thousand dollars, I could mint a three-year Y-token and P-token for aUST. Because Anchor yields 20% at the moment, I might end up being able to sell my three-year yield token for say $500 when I put $1000 in. 


43:45 • Hyperion
You get quite a similar result to Alchemix except, in this instance, you’ve sold your yield token but you also maintain your liquid principal token. In Alchemix, you don’t have a fixed maturity. You don’t know when your loan is going to be paid off. It’s invested in Yearn and as it earns yield your loan’s paid down. For us, you know that if you sell a three-year yield token you know exactly how much cash you’re getting upfront and you know that in three years time you’re going to be able to redeem your full amount. In the meantime, you could buy it back and close your position by trading on the AMM, but you have a fixed maturity where you know exactly when your loan is going to be paid off which I think is an interesting situation. 


44:33 • Hyperion
We’re really excited to potentially work with people like Kinetic who can use our perpetual instruments like  yLUNA or yDOT or ySOL to help people pay down their loans in UST. I think there’s lots of other use cases as well. 


44:48 • Jose
Other than integrating additional tokens, are you thinking of building any additional functionality into Prism? 


45:00 • Hyperion
Fixed maturities is something we want to build out on. We also want to enable governance voting via your P-token. Say, for example, there are important governance votes on Terra going on. We think it’d be really cool to enable people who hold pLUNA to be able to pass governance votes through Prism and that get passed on to Terastation. So, aggregating votes on Prism and then passing it over. That’s going to allow people to put a value on governance which is hard to isolate at the moment. Generally, yield tokens and principle tokens we believe are building blocks on which a lot of other protocols can integrate. As an example, we formed this partnership with Pylon Protocol which is going to allow users to deposit yield tokens and swap their yield for new protocols launching in Pylon. 


46:06 • Hyperion
Potentially looking at which DEXs we can partner up with – there are some very exciting DEXs coming to Terra soon. We want to partner up and do LP tokens for those. Refracting tokens of money market protocols is really interesting because you’re going to be able to go from floating rate to fixed rate. As you know, there are some good money market protocols coming to Terra soon. Also, allowing people to be leveraged yield farmers and auto-compound these yield tokens is going to be really interesting. I think the use case we just mentioned with the Alchemix-style being able to sell a three-year aUST token… it’s going to be really interesting for people when you have some of these off-ramps that are on Terra at the moment like Tick, Alice, and Cash, where anyone in the world will be able to sell a three-year yUST token and everything can get abstracted away, and they’re effectively selling their future yield and receive that amount upfront. 


47:07 • Hyperion
I think there’s going to be tons of wood to chop. One of the other things that we’re going to be doing is: we want to be able to enable leverage trading on these products and margin leverage trading which we discussed earlier on. That’s definitely something on our roadmap and we want people to be able to easily leverage long and short these products as people do in traditional finance. There’s going to be plenty of wood to chop on the future roadmap. If that’s what governance decides then that’s definitely something that’s going to be really exciting. 


47:42 • Jose
We are investors in Alchemix and are helping out with Kinetic…but with Alchemix, I never realized that it was a subset of this token splitting. That’s really interesting to figure out. You mentioned governance. How does the Prism token work?  How does it capture value and what does it govern? 


48:08 • Hyperion
We’re running  a Prism and xPrism model, modeling it after the xSushi model. The Prism token itself is going to be the base asset in all liquidity pools. The reason we’re doing that is similar to THORchain where, as we spin up more and more assets, (initially we’re going to start off with six liquidity pools),…but for every asset you have, like LUNA for example, we’re going to have a yLUNA Prism pool, a pLUNA Prism pool, a cLUNA Prism pool, and a Prism/LUNA pool. Every time you add a new asset, you’re going to have another four pools. If you start adding maturities for those assets, you’re going to have even more pools for each of those assets because you’re going to need to have a six-month yLUNA pooled or a six-month pLUNA pool. 


48:57 • Hyperion
Having Prism as the base asset in each of these pools means that you can swap from any one asset to any other asset in a maximum of one swap because you would go yLUNA to Prism to pSOL, for example. That’s how it’s going to be used. That means that as the TVL in the protocol grows, the amount of Prism token that’s required in the liquidity pools this is also going to increase. 


49:25 • Jose
That makes sense. Do you not think that it has some detrimental effects on the UX? Users generally price things in UST and even LPs for a yields-bearing LUNA token might not necessarily want Prism exposure. They might just want to LP that with UST. Did you think through that? What made you decide on this? 


49:48 • Hyperion
Agreed. The fundamental view for liquidity providers was actually in: if I pair something against UST, that UST is a dead asset for me. 50% of my exposure in the pool is to something that I really like, and the other 50% is being exposed to UST which is great for all the reasons we spoke about before, but as an appreciating asset, isn’t great. I do think there’s something that’s really interesting to be said about pairing things with aUST which is a 20% compounding asset. Aside from that, if you pair your asset with Prism the same way that Uniswap pairs a lot of assets with ETH, then potentially you’re going to have exposure to two assets you really like in the liquidity pools. 


50:38 • Hyperion
As a liquidity provider, it could be attractive from that perspective. From a denomination perspective, I agree with you. I think people won’t want to denominate their yLUNA in Prism terms. Our UX is going to allow people to choose what they want the denominator to be because, not only will people want to denominate their tokens in UST and understand what the value of it is in actual dollar terms, I also think people would want to denominate pLUNA in LUNA terms. It’d be like, “What’s my pLUNA relative to LUNA?” That’s something we’ve seen with the bLUNA/LUNA pool. People really like seeing what the value of bLUNA is relative to LUNA. Our UX is going to give people the optionality to decide exactly how they want to visibly see each token is denominated so that they can trade based on whatever metric they want. 


51:29 • Hyperion
You can either trade based on LUNA terms or you can trade on UST terms or you can trade in Prism terms if you want. So, I agree with you. It’s something that I think it’s going to be really important for people. 


51:40 • Jose
Interesting.  That makes sense. What does it govern?


51:47 • Hyperion
If you want to participate in governance of the protocol then you can use your Prism token to mint xPrism and xPrism is effectively a pool of Prism tokens, and every day, as the protocol makes fees, which will be a percentage of the yield generated by the underlying assets in the vault… Similar to how validators take fees or similar to how LDO takes fees which is just a percentage of the yield – that’s what Prism is going to do. Every day, the percentage of yield that’s taken is converted to Prism on the AMM. That Prism is then 

distributed into the xPrism pool. So, xPrism is a compounding token where the value of it increases like aUST or xSushi. With your xPrism token you can participate in governance, and governance is going to be extremely important in deciding which assets we end up listing, what are the various parameters of the protocol around fees, and other important things like that.


52:50 • Hyperion
The aim is to make xPrism extremely important and valuable for governance because there’s going to be lots of really important decisions that xPrism holders need to make. 


53:10 • Jose
One aspect that doesn’t exist in TradFi is the composability for these interest rate derivatives, so using them as collateral, or in LP shares – what are the composability use cases that you’re most excited for with Prism? I know we’ve touched on a few like the perpetuals and the leverage, but I’m curious if there are any others. 


53:34 • Hyperion
What it comes down to is: if you create these fundamental building blocks, which I think yield tokens and principle tokens are, it’s how they’re going to be used elsewhere. Using them to raise cash by getting cash flow-based loans, being able to combine them or use them separately, to be able to do this margin trading that we discussed… how all these other protocols are going to integrate with them has been really interesting. We haven’t launched yet, and we’ve had multiple conversations with other protocols, like the Pylon partnership. All these other protocols are thinking, “How can we integrate these into our protocols?” It’s  going to be a fundamental building block of the money Lego of DeFi that is going to be really exciting to see how it gets used. 


54:21 • Hyperion
There’s tons of use cases, some of which we’ve touched on already. There’s going to be so many more that we haven’t even thought of that emerge once these protocols start trading and people start thinking about how they can use it. This is something that isn’t available in TradFi because you’re not able to self-custody your assets like  this in TradFi. You don’t have a seat at the table with your ISDA where you are able to trade these with investment banks. It really democratizes everything and gives everyone custody and the opportunity to isolate out what risks they want to take with these fundamental building blocks. I know that’s a bit that might sound a bit wishy-washy, but that’s what I’m excited about. 


55:06 • Jose
That’s good. I’m way more excited after hearing you explain everything.  The ways that this can be used are really cool. I’m already thinking of a few with some of the projects that we’re incubating. This is a massive market in TradFi, like you said, right?  You said it was 600 trillion or some silly number, but for some reason it’s yet to take off in DeFi even on other chains like Ethereum. You’ve had Pendle launch and that doesn’t really have any traction. APWine I don’t believe is launched yet but… there’s a few others there. Why do you think they’ve failed to achieve traction so far? 


55:47 • Hyperion
I’ve looked a bit at those other protocols.  Fundamentally, this is kind of coupon stripping, which is something that happens in TradFi and that’s what we’re doing. That’s what these other protocols look like they’re doing on ETH. The difference for us is going to be that we’re doing proof of stake assets and perpetual instruments. Maybe one of the things that users might have found hard is: when you start with maturities and when you start with your underlying assets as DAI and USDC, I think that in a bull market, people get less excited about splitting yield on DAI or USDC in Yearn. People are excited about their own assets. People are excited about which DeFi degen yield they want maximum exposure to. 


56:44 • Hyperion
Nomenclature, i.e. the way these things are actually written down, they have about 15 different letters in them and stuff like that, I think it becomes hard for people. Even though it’s simple when you understand it, I think it’s hard for people to understand. Also, I don’t think an initial focus on stablecoins in a bull market resonates as much with people because it’s whether you want to lock in an extra 2% yield or something like that. I have every faith that those protocols will take off, and I have every faith that there’s going to be lots of other protocols that spin up as well because it is such a huge market in traditional finance. In the first instance, I think people are going to be really excited to take leveraged exposure to price or yield of asset on a perpetual basis of assets that they really like fundamentally, and they are just choosing which bit of the asset they like the most.


57:42 • Hyperion
That’s potentially why there’s issues with traction. As an aside which maybe gets a bit technical: if you are trading assets that have a fixed maturity, so say, for example, I trade a one-year yield token… As I approach the end of that year, the value of that yield token gets less and less because the right to receive that yield gets less and less. That adds quite a lot of complexity into AMM design Because one of the assets in the AMM, this yield token, is approaching zero value as it goes to expiry which kind of guarantees impermanent loss. In turn, for a lot of these protocols you need liquidity. Liquidity is everything. I think there’s a lot of complexity for people in trading and in providing liquidity on some of these bespoke AMMs that account for this decay in value of the assets. 


58:50 • Hyperion
That can sometimes be a barrier to entry for some of the more normal users. Hopefully, with perpetual instruments, that isn’t something we’re going to have. 


58:59 • Jose
That all makes a lot of sense. It’s a case of choosing the wrong products to start with because in a bull market no one really cares about an extra 2% yield on stables, or maybe just a few people do. I think focusing on Layer1 assets makes more sense. Also, focusing on the composability on top, like cheaper leverage to LUNA and stuff like that. I agree that the nomenclature is a problem. That’s like an Ethereum thing generally, right? Yearn started it with their “yvxUSD” or whatever it was. We’re pretty in-the-weeds with that stuff, and even we struggle to remember what all the assets mean. I think perpetual is the right way to start, for sure. It’s easier for people to understand and you don’t have the time decay issue with the AMM. 


59:41 • Jose
This is really helpful to understand Prism and understand interest rate derivatives. On a more philosophical level,  interest rate derivatives really matter and in TradFi because there are these central-backed interest rates that act as the gravity by which all asset prices are measured. To an extent, we’re all dependent on the decisions of the Fed and what they do there. Is there an equivalent in crypto?  Is there something like  that to hedge in crypto? Do you think staking yields for different chains will eventually be that for the chain or how are you thinking about it? 


01:00:16 • Hyperion
For me, it is a super interesting question.  Something that I have quite a strong view on (and maybe I’m a little bit biased) is that I think the decentralized finance has to have a decentralized interest rate and the rate that people will use to discount future cash flows, in my opinion, as the market matures, people will realize that this has to be a decentralized rate. Like it or not, I think people are still going to denominate their wealth in dollars, and dollars is going to be the key currency. For me, the core components of the interest rate have to be that it has to be the interest rate on a dollar stablecoin. To my mind, there is only one battled tested dollar stablecoin out there at the moment. 


01:01:09 • Hyperion
I think that is UST because I think anything where you don’t have custody of your underlying dollars, like is the case with Tether or Circle of DAI, or where they’re not as censorship-resistant, I don’t think can form the fundamental basis of the DeFi risk-free curve. Decentralized finance has to have decentralized money which will have the decentralized risk-free curve. The yield at the moment that applies on that is the Anchor yield for UST which oscillates around 20 to 19.5 percent at the moment. When something is the risk-free rate, you have to talk about something in it’s risk-minimized state. For me, when you’re talking about risk-minimizing something, that means that you’re de-risking the underlying UST even more. For me, you’re taking out peg insurance on that and you’re then taking out smart contract insurance on that. 


01:02:15 • Hyperion
For me, I think that the true DeFi risk-free rate is going to be the Anchor yield less the cost of all the relevant insurances, i.e. the cost of peg insurance and the cost of smart contract insurance. I think that currently gets you to somewhere around 15% which I believe is the risk-free rate. I think there’s Aave’s own insurance launching on Anchor soon. There’s Mars Protocol which is going to provide an interest rate for aUST. Fundamentally, I think that’s going to be the basis. “What is the yield on aUST or UST and what is it in its most risk-minimized state that’s available, which is after smart contract, pegging, etc.?” I realized I’m a bit biased but those are my views on where it comes from.


01:03:03 • Jose
When you started off I thought you were going to say something like an index of yield tokens of different Layer1 chains, but I guess that’s what Anchor is, in a sense, right? The terminal rate will probably be like an Anchor rate of all the different Layer1 yields, right? That’s basically what it’s doing which is interesting. 


01:03:28 • Hyperion
As Layer1 assets mature and prices move up and yields come down, the Anchor rate itself,  because of market forces, will come down. At least for the foreseeable future, I think that is going to be the key component of the DeFi risk-free rate. 


01:03:50 • Jose
Is there anything you wanted to touch on in terms of… I know you’re planning on potentially doing some sort of token launch event…anything you want to talk about there or anywhere people can go find out more about that? 


01:04:09 • Hyperion
We’ve started our audit now, so we’re hoping to go live in a matter of weeks. We have been inspired by some of the launches that have happened on Solana recently, and we want to try and do our best to make this as fair as possible. We’re going to be using a method similar to Mango Markets with a couple of small tweaks which hopefully benefit smaller users and allow for less manipulation. We have published details of that, but we’re going to provide a much more detailed roadmap about our launch. If people want to end up getting hold of the tokens they have the option to do that. Or, once we’ve actually launched, we’re going to do this partnership with Pylon Protocol where people will be able to deposit their yLUNA tokens and farm Prism tokens doing that. 


01:05:05 • Hyperion
Hopefully those are going to end up in some fair experiences for people and avoid some manipulation. If anyone wants to catch up, we have a pretty active Discord. We have Twitter. We try to be pretty engaged with people on that. We’re always really interested to hear from what potential future members of the community think or ideas they have. I really appreciate the opportunity to come to the podcast. I’ve been listening for a long time now and really appreciate it. It’s great to come on and talk about Prism. 


01:05:42 • Jose
That’s awesome. We were inspired by the Mango Markets sale as well. We used some concepts for that in some of the stuff we’re incubating and working with. This was really helpful.  I think this will help a lot of people understand not just Prism but the potential for these underlying tokens and the composability that they can enable in general. Really appreciate you coming on. Really appreciate your time. And looking forward to moving all my LUNA perp exposure to pLUNA instead.


01:06:18 • Hyperion
Thanks very much really.  Appreciate it. 


01:06:19 • Jose
Thanks very much. 

Show Notes: 

(00:00:00) – Introduction.

(00:01:27) – Hyperion’s background.

(00:05:42) – Deciding to build in crypto.

(00:07:27) – Interest rate derivatives in TradFi. 

(00:11:09) – Using interest rate derivatives as a hedge. 

(00:14:40) – The size of the interest rate derivatives market. 

(00:16:50) – The founding basis of PRISM.

(00:20:49) – Yield curves in crypto. 

(00:22:06) – The user journey on PRISM. 

(00:23:45) – Price expectations for pLuna and yLuna.  

(00:29:37) – Long/short strategies for pLuna and yLuna.

(00:32:10) – Perpetuals for pLuna.

(00:34:35) – Fixed maturity on the tokens.

(00:37:15) – The relationship between p tokens and y tokens. 

(00:38:57) – Tokens beyond pLuna and yLuna. 

(00:42:08) – The possibilities for aUST?

(00:44:48) – Additional functionalities on PRISM. 

(00:48:01) – The $PRISM token. 

(00:53:11) – Composability use-cases for PRISM. 

(00:55:24) – Why interest rate derivatives have not gained traction in crypto.

(00:59:41) – The core interest rates in crypto.

(01:03:52) – Closing thoughts.