$375 million insurance pool opportunity coming to DeFi

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Big improvements are coming to DeFi’s second-largest protocol and its $375 million insurance pool.

In a mostly celebratory group call dedicated in part to commemorating Aave’s 8th January Aave loan protocol—a full year Aave on Ethereum mainnet—there was also a glimpse at Aave’s potential future: a plan by Delphi Digital to radically change Aave’s protection module and to create a new insurance product offering.

Currently, $ave governance token holders will exchange their tokens in the Protection Module, a liquidity pool intended to help insure a protocol against a “short event” such as a smart contract exploit. Stakeholders lose up to 30% of the funds they lock up in the Module, but they earn a return on their return (currently 4.66 percent ). The safety module pool has attracted around $375 million in investments, comfortably the largest decentralised insurance fund of its sort.

However, according to Jose Maria Macedo and Jonathan Erlich, Delphi Digital’s collaborator and consultant, there are a host of shortcomings in the new system. For example, the Protection Module protects the entire network, rendering it impossible to assess the consumer demand for coverage; there are additional structural threats for each new project listed on Aave; and the Safety Module Depositors cover all projects at varying risk thresholds at the same cost.

Market solutions

The Delphi Digital proposal aims to revise the safety module scheme and to create a market-based approach to these shortcomings.

“In our most recent proposal, rather than insurance being bundled in with all deposits, it is instead offered as a separate product on the demand side,” said Macedo and Erlich in an interview with Cointelegraph. “This makes it possible to compute cover demand and capacity precisely and thus price risk using market mechanisms.”

Their plan will add an option for depositors to choose a protected or unprotected deposit, with the covered deposits providing a cheaper interest rate to accommodate for the expense of the insurance. This will encourage the creation of a more robust and complex market between safety module stakeholders operating within various risk tranches and depositors to improve their capital productivity as they would determine what type of protection they need.

“We believe [this] design is more efficient because rather than imposing a uniform insurance cost across all Aave money markets, it can instead price each asset independently based on the specific risks associated to it,” said Macedo and Erlich.

Perhaps most excitingly, this scheme could become Aave’s “generalised insurance” programme intended to compete with ventures like Cover and Nexus Mutual.

“With existing insurance solutions users have to purchase cover upfront which entitles them to insurance on a given protocol for a set amount of time (generally at least 6 months). With the current state of DeFi, most users don’t know where their capital will be next week let alone 6 months from now […] With our architecture, users only pay for insurance while they use it and the process of buying/selling is abstracted away entirely.”

VCs in DAOs?

The plan is noteworthy not only for possibly bringing a whole new product line into the Aave community, but also for who developed it: although Delphi Digital provides testing and consultancy services, it also houses a venture capital arm.

Due to their transparent, unauthorised existence, DAO-governed projects such as Aave will house all kinds of participants, including VCs. However, several analysts have criticised ventures for taking venture capital money before decentralising government and claim that the power of centralised institutions may clash with the vision and priorities of the broader community.

In Delphi’s case, though, they can show how VCs can help drive the project forwards.

“Capital is plentiful in crypto, and when we invest in a project, our goal is never just to invest money, but also our team’s intellectual capital and time to help drive it forwards,” said Macedo and Erlich. “We are working on multiple proposals right now and have a long history of ideas for proposals and changes that we want to make to others.”

While this kind of advocacy would no doubt help Delphi’s bottom line, it is also a greater gamble on the future of DAOs in general.

“In terms of DAOs, we see them as the next evolution in human coordination. In the long-term, we believe the long tail of organisations will be structured as DAOs, taking advantage of their internet-native, borderless nature and of the efficiency/automation advantages they provide.”

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