[TEMP CHECK] Aave Treasury Proposal for RWA Allocation

Governance General
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Title: Aave Treasury Proposal: Onboard with Centrifuge Prime to invest in RWA
Author: @Khan
Date: Aug 8, 2023

Summary

This proposal requests that a portion of the Aave Treasury’s stablecoin holdings be allocated to a low-risk RWA investment through Centrifuge Prime.

This will allow Aave to earn yield on idle stablecoins, establish long-term RWA infrastructure for the protocol, and allow the Aave DAO to begin building internal familiarity and expertise in this market. The Aave Treasury will primarily benefit from an allocation into uncorrelated and differentiated collateral beyond crypto native assets.

The main results of this proposal:

  1. Aave will onboard to Centrifuge Prime to establish the legal and technical infrastructure for the Aave treasury to invest in RWA
  2. Aave Treasury to allocate to RWA, with an initial investment of 1M USDC into short-duration US treasuries, increasing to a target allocation of up to 20% of stablecoin holdings, and with the option to extend to other yields subject to Aave governance approval.

Motivation

Aave has long been a contributor and supporter of RWA initiatives. Since the first announcement of GHO, the Aave community has consistently expressed its interest in expanding into this area. Treasury Management at Aave has historically been focused on strategic crypto assets, overlooking the returns and liquidity available in offchain markets.

Today, with roughly 65% of the treasury in USDC (~15m USD), the Aave DAO is overlooking the 5% available interest in the risk-free rate of overnight financing of US treasury assets. This can offer $250,000 of revenue a year at just 5m USD of investment (a ~30% allocation of the current USDC balance). These markets can immediately become some of the highest earning revenue streams for the DAO.

Beyond just economics, this proposal would allow the Aave DAO to establish and begin developing the internal RWA expertise necessary to engage with these markets. Centrifuge Prime has been purpose built for DAOs, offering the ability to create a dedicated infrastructure, onboard with an ecosystem of partners, and access the relevant portfolio of assets through a single interface.

Centrifuge has a long track record of working with DAOs to bring RWA on as collateral, and pioneered the first Aave deployment into RWA with the joint development of the RWA Market. Onboarding Aave to Centrifuge Prime for liquid investment strategies is an optimal approach for scaling RWA with the Aave community. It will develop the legal and technical infrastructure necessary to interface with RWAs safely and efficiently, while allowing the Aave community to get comfortable and familiar with the processes and thinking around RWA. This will put Aave in a significantly improved position to be able to leverage RWA collateral for GHO in the long term, either to improve liquidity or develop additional revenue streams, while also earning revenue today on idle stablecoin assets.

Specification

This proposal instructs Centrifuge to initiate the setup of a legal structure that will be ratified and deployed by a subsequent Aave community vote. The legal structure will be integrated with DAO governance, capable of investing and holding assets on behalf of the DAO, and ultimately allow the Aave DAO legal recourse to their investments with control held by governance token holders. This framework is based on our extensive experience in MakerDAO setting up similar structures.

The investment process will be made in an incremental approach with follow-on approval from the community, to be made by Centrifuge once this proposal is approved. Prime allows the Aave DAO to instruct the portfolio creation and allocation decisions. The initial investments will be a short term US treasury bill fund, with further opportunities to diversify yields available later on.

Centrifuge Prime can help the Aave DAO to allocate into the following asset classes:

Bucket Description Target Return Liquidity
Liquid Lowest risk while maintaining US Treasuries, MMF, AA+ rated short term bonds 5-6% Daily
Preservation Investments in senior secured loans such as real estate, corporate bonds etc. 6-8% 3-6 months
Acceleration Trade finance, non-bank originators, emerging markets 8-15% 3-24mo

The legal structure establishes a Caymans Islands foundation company. The articles that establish this foundation company define rules and procedures that only allow the foundation to receive and follow orders from a DAO governance process. The foundation company does not represent the DAO generally but simply serves as a tool that the DAO can use to engage with the traditional legal system of RWA markets.

Rollout

It is best for Aave to deploy into RWAs slowly. We propose to start off with an initial deployment into a Short Term US Treasury fund with an initial investment of $1M and then slowly ramping up.

Phase
Legal setup Creation of Foundation Company, passing of DAO resolutions to start deployment into RWAs 1-2 months
Initial Deployment DAO instructs Foundation to deploy $1M into a US Treasuries Fund and transfers $1M in USDC Stablecoins into a first investment pool 3mo
Scaling up / Ongoing Operation DAO can vote on increase allocation to Prime and direct investments towards a variety of liquid lower yielding and more longer term investments at any time After 3mo

Fees

While there are some legal setup costs that have to be covered by the DAO upfront we limit these as much as possible. Even at a conservative deployment of just $2M and a portfolio return equal to current US Treasury yields Aave should break-even within the first 6mo and start generating revenue for the DAO thereafter. The legal work will be useful far beyond this initial proposal and could be the basis on which Aave onboards RWAs into GHO.

Fees
Legal Setup up to 50,000 USDC To be paid immediately for lawyers and Cayman service providers to setup a Cayman foundation company to the benefit of the Aave DAO, any unused budget will be returned to the Aave treasury
Portfolio Fee 0.35% p.a. on assets in Prime up to $50M, 0.2% $50-100M, 0.1% >$100M Paid on an ongoing basis to Centrifuge for maintaining the portfolio
Aave Reward 500 stkAave streamed over 2 years Centrifuge DAO intends for this to create better alignment with strong skin in the game incentives for success.

Additional Resources

Disclaimer: This proposal is written by a member of the k/factory team, a core contributor to the Centrifuge protocol.

Next Steps: This proposal will move to an offchain snapshot vote in 7-14 days, and if successful, to an onchain AIP immediately after. The Centrifuge team is available for a community call to discuss this proposal, Centrifuge Prime, and other topics in further detail as requested by the Aave community.

Copyright: Copyright and related rights waived via CC0.

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Great to see this sort of discussion – it seems to offer a bright future for Aave’s treasury.

IMO, it promises three core things:

  • diversity, into new asset classes
  • liquidity, focusing on debt funds
  • returns, targeting 500bps

As mentioned in previous comments, RWAs are a way to introduce more resiliency into treasury management and grow Aave’s focus beyond crypto-native assets:

This is low(er) risk and seems to improve Aave’s capital efficiency; it shows agility.

I’m supportive of a limited investment of $1mm of Aave’s stablecoin treasury, leading the infrastructure for Aave to ramp up RWA exposure and build familiarity with new, professional managers.

While the largest cost of this proposal is the stkAave incentives and legal set-up, if there is strong community interest it may be worth scaling it to 2-3mm to more quickly pay back this investment.

Disclaimer: This is my personal view … I am not a CFA, etc.

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Great post. Just curious how you estimate the return targeting 500bps? I assume the estimated 500bps is the spread, what’s the benchmark? Thanks!

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That number is an example based on the current SOFR rate. Rather than a financing spread, liquid credit funds typically pass through the underlying rate net of any fees.

We estimate fees for the initial treasury fund investment being 35 basis points per anum.

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Hello,

I have a few remarks to share:

  1. Proposal Stage: Thank you for publishing this proposal and adhering to the governance guidelines. However, please convert this post to a TEMP CHECK, as this preliminary step has not been undertaken. Treasury allocation in Off-chain assets has no precedence in the Aave DAO, and only success at the TEMP CHECK Stage will allow this proposal to become an ARFC.

  2. Centrifuge Partnership: Centrifuge is a valued partner of the Aave DAO, as evidenced by the historic synergies at rwamarket.io. The ACI is welcoming further collaboration with them.

  3. Allocation Strategy: The ACI believes that deploying an ad-hoc Centrifuge GHO facilitator credit line would be the most capital-efficient and scalable strategy for this kind of allocation. Governance should influence the APR cost, credit line size, and have the flexibility to evolve it over time. Given that GHO is not yet mature enough for this strategy, we suggest revisiting this in a quarter, following GHO’s growth, improved peg-resilience, and circulating supply.
    We are not in favor of spending treasury stables, current Aave DAO budget is tight and we need to stay conservative with them.

  4. AAVE Reward Allocation: The ACI’s doctrine is against any AAVE reward allocation, as the Ecosystem Reserve is finite. The DAO must exercise caution with AAVE spending. This reward stream could be channeled through a specific GHO stream.

  5. Portfolio Fee and Legal Setup: The portfolio fee and legal setup appear nominal, and we have no specific remarks on these aspects.

  6. Long-term Consideration: The ACI emphasizes that this strategy will likely bear fruit only in the long term. The community should scrutinize this proposal and the likely numerous upcoming proposals of a similar nature with care, as not all of them will be of equal quality.

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I would generally agree with all or Marc’s comments above and would push the DAO to think more long-term about strategies and partnerships with RWA providers (both treasury and GHO)

To the above point, specifically, if the community is serious about treasury/GHO RWA integrations, we should look to take a step back and better understand the market, the players, and the options before committing to a single route and partner. Centrifuge has been around for a long-time, but there are numerous other players that should now be considered such as Ondo, Maple, Backed, and others. I’ve had offline conversations with the RWA.xyz team and would love for them to share insights into comparable treasury-RWA-investments from DAOs in the past (cc: @adamlawrence)

We should better define what we’re are looking for (structure & committed amount) and then take that to market to diligence and compare different providers, risks, and opportunities before committing on a specified strategy.

This aligns with my comments from a prior thread about competitive bids vs. custom vendor-specific proposals:

So while I appreciate Centrifuge taking the initiative, I’d push for the key delegates to take @MarcZeller’s lede and discuss: first whether it is the right time for an RWA investment and second what structure that should take after seeing proposals from an array of providers.

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That makes a lot sense now. Thanks!

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Thanks for the thoughtful discussion @fig @MarcZeller @benhoneill.

Noted. We had discussed this with the Aave community for some time and receiving strong support and guidance, we envisioned this was the right approach with the Temp Check as optional. This will be edited this back to a Temp Check and we will seek further input from the community in this thread.

A conservative approach is the right approach at this stage. The proposal is structured so that the ramp up period and initial investment (i.e. US Treasury’s are the world’s most liquid market) is a conservative approach that increases revenue without significant risk exposure. The interest return on the initial investments can be used to reinvest, minimizing impact to the treasury’s onchain stablecoin balance.

Given the opportunity cost with treasury yields where they are today, especially relative to crypto market yields, we anticipate the proposal will have significant impact immediately.

We’d echo @MarcZeller’s points here. GHO is the optimal solution for Aave to engage with RWA markets but is not quite ready yet. We believe this proposal is fully compatible with supporting Aave’s treasury needs as well it’s GHO strategy. This proposal seeks to provide a solution to an immediate need (i.e. treasury productivity) while establishing the foundations for longer term infrastructure when GHO markets are further established.

Centrifuge as a Contributor

We encourage the DAO to consider and evaluate the merits of our proposal relative to the market. We emphasize that this proposal will co-create infrastructure with the Aave community and does not stipulate vendor lock-in (i.e. the legal structure is generic and can support investments in a variety of offchain arrangements; the investments are determined by token holders rather than Centrifuge). We are not asking to be the sole RWA contributor and are supportive of working and collaborating alongside others.

We have seen RWA as a topic overwhelm other communities before. The fee setup and incentives are structured here to avoid the downfalls of the contributor model while taking advantage of the Centrifuge - Aave relationship and enable an optimal outcome for the community.

To be explicit: We are asking the Aave community to support and enable Centrifuge to be a core contributor of Aave’s RWA efforts today.

We believe our work with Aave to date supports this and that the market shows support for the merits of our work. Our legal infrastructure is relied on to support billions of dollars of assets and our technology stack has facilitated hundreds of millions of onchain lending to date. We believe our proposal provides the critical requisite protections for the DAO while the Centrifuge ecosystem provides access to high-quality counterparties, service providers, and additional RWA partners today.

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Hi Community,

This is my first contribution but I have been a long time observer and holder of Aave. Pretty excited that this is the first topic I am commenting on.

In full disclosure, I am a founding member of the Hashnote team. Hashnote is a team with roots at DRW / Cumberland and we are a digital asset manager. We are intimately familiar with the instruments being discussed here, hence the post. We have tokenized RWAs, specifically US treasuries.

We applaud @Khan and the Centrifuge team for putting together this proposal as well as their contributions to the GHO Facilitator application and onboarding ARFC.

General Risk
There are many good points raised in the proposal as well as comments. To start, I want to emphasize @Khan’s point that from a risk perspective US Treasuries are currently about as risk free a yielding asset as you can hold (despite what your views may be of the US government). As we’ve seen over the last 6 months, the risk and uncertainty around Banks has created a flight to safety and quality. Rightfully so, a lot of that flight has landed in US Treasuries. The US Government is historically (and currently) considered the most ‘risk free’ counterparty. For these reasons, we highly recommend Aave take advantage of the current climate to earn an attractive interest on an otherwise idle asset (stable coins). Currently Aave is giving all the ‘risk-free’ upside to Circle.

I can appreciate the concerns around risk and what happens in scenario x, y, and z. I believe it is the point of proposals and discussions like this to help bridge the knowledge divide. Organisations like Centrifuge, Hashnote and others can assist in augmenting Aave’s capabilities.

Acquisition and Custody
One concern that’s worth addressing is that US Treasury exposure can be acquired in many different forms. Many retail investors access these returns by investing in money market funds (MMF). These funds hold cash and/or cash equivalents. The “equivalents” part is the thing worth addressing. Not all MMF are created equal and their actual holding may consist of different products, not all of which meet the same low level of risk as you get from US Treasuries. Institutions have a bit more optionality, they can purchase treasuries through brokers, which means there is more control over the type of risk they are putting on. Few organisations actually hold treasuries (CUSIPs), many are held at qualified custodians. This is an important thing to understand for this topic. To become a qualified custodian is an extremely difficult process, they have strong controls and are highly regulated. If you hold assets at a qualified custodian you are bankruptcy remote from that entity. In the event your qualified custodian goes bankrupt, your assets are not included in proceedings, they remain in your ownership and are fully accessible.

Duration Risk
The thing worth understanding here is that there are different durations of US Treasuries. It is important to align the goals of an entity before choosing the right mix of durations. If you think you’ll need liquidity in a few months, then you probably shouldn’t be buying 6 month bills. You wont get your cash back until maturity (in this example 6 months). But if you have enough liquidity then you can purchase further-out dated bonds (like 1 yr or 5 yr) to lock in a higher interest rate. But these bills come with duration and liquidity risks, lots can happen between now and 5 years from now. The SVB situation is a prime example. MMFs are also at risk, because they ladder their exposure. If the Fed raises rates again and many investors pull their funds to purchase higher interest bonds through broker-dealers, then the MMF will be forced to sell not-yet-matured bonds for a loss to meet redemptions, meaning there is principal loss to the remaining holders.

Repo Market
Another interesting mechanism for receiving attractive interest rates is the Repo Market. Without going into a ton of details, it’s essentially a market that exists to allow Tbill holders to sell the asset overnight (receive cash) and buy it back (at a slightly higher rate) in the morning (aka repurchase agreement). There are a number of reasons why it exists, for this discussion what is important to understand is that the buyer has treasury exposure for less than 24hrs. This means that for most of the day, you have fast access to liquidity. This is highly attractive but unfortunately not accessible to many organisations and certain MMFs.

I am not intimately familiar with how Centrifuge structures their Liquid bucket, but our suggestion would be to scope any initial foray into RWA to only US Treasuries and to do so at the lower durations (repo and no greater than 6 month bills).

Legal
All that said, we are putting the cart before the horse. Before any of this can happen, the DAO needs to be legally capable of such activities. At the moment the first phase of this proposal is probably the most critical. Without it, the rest of the conversation is moot. @Khan raised an important point, this entity is not specific to Centrifuge, it’s a tool that opens the door to many opportunities that will be important to the DAOs growth (this topic is a subset of those opportunities).

I suggest extracting the legal entity into its own Temp Check so that the particulars of this conversation do not muddy the waters. It’s also the longest lead time, so while this conversation evolves that work could be performed in parallel. Fortunately, AaveDAO can lean on precedents set by others in regards to legal structure (MakerDAO). From our experience, we believe the legal costs specified in this proposal are inline with what can be expected.

Conclusion
I have read many of the community posts and governance proposals and there is a theme surrounding sustainability and risk reduction. I believe these things are achievable with the right discord and participation from all those around the table. Looking forward to being a more involved party in these discussions!

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Based on some direct conversations, we’ve added a high-level summary of the intended legal structure.

The below section has been added to the Specifications of this proposal.

We’re looking forward to the upcoming Snapshot vote. Please continue to engage with us with questions, feedback, and support.

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Given that there are multiple party’s interested in providing RWA allocation services to the DAO. Or at least, plenty of RWA focused proposals in general (GHO facilitator, treasury allocation etc), I believe it could be helpful for the Aave DAO to produce an RFP around RWAs.

Said RFP, could be focused on treasury allocation and outline what the DAO expects in a proposal around RWAs. Requirements would have to be extremely specific and RWAs are not my skill set so I won’t postulate. But in general, the process could be - the Aave DAO has set aside 500K (just putting a random $ amount here - insert acceptable number for the DAO) for RWA allocations, there is a one month period from x date to y date where anyone can apply to manage that money for x months. If that 6 months goes well, the scope can expand. For each proposal, teams have to provide specific and standardised info on their proposed strategy.

I’m a big fan of centrifuge! And this seems like a good proposal. My concern would be that the DAO currently doesn’t possess the expertise to properly assess RWAs and an RFP process would give time for proper input and information would be presented in a standardised and understandable way. I think it’s worth taking the time to nail our RWA strategy and the RFP process is perhaps under-utilised.

For those unaware of RFPs, they’re basically a DAO approved mandate to outsource work during a specific time window with exact criteria for each proposal. The DAO then votes for their favourite of competing proposals. Lido did one for picking their treasury manager (iirc) which is worth checking out.

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So the DAO will be the sole member and manager of the foundation company I guess. However most of TradFi have to follow their BSA/AML and KYC policies and run their own compliance search, if the DAO is the sole member and manager, it will trigger the traditional legal system of RWA markets. Just curious what the solution is to this?

In addition, it seems that Centrifuge will act as a GP if we were to view this structure as a fund. Not sure if my understanding is correct. TIA.

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Hi @cynxxxx

This is Eli Cohen, General Counsel to Centrifuge. I can help explain the legal setup that we propose and that we have used with other DAOs.

The foundation company would be set-up without a shareholder/member and with a nominee director. The articles of the company would specify that the director can act only upon direction of the DAO as reflected in an onchain vote. So the foundation company is fully under the control of the DAO.

But as the foundation company is a legal entity, it can clear KYC processes to be able to invest in permissioned RWA products.

For the fund, Centrifuge is not a GP. The fund will be set up by a third party asset manager as a pool on the Centrifuge platform with fund shares issued as tokens to be held directly by the DAO onchain in a wallet. It is a regulated offshore fund set up as a company with a specific class of shares for the fund rather than a partnership with LPs and GPs.

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Hi @elidco

Thank you for your detailed and timely response!

I understand that the foundation company has no issues clearing the KYC process. Just curious about the level at which the compliance search will stop. Since it is structured as a DAO, I assume that a compliance search will be run on the nominee director, who would be a warm body I assume.

For the asset manager, just curious about the due diligence process for manager selection is. Considering it would be a third party manager, I assume there is a pool of managers. Just to confirm that the Fund will be set up as a pooled investment vehicle, encompassing all the three categories (Liquid, Preservation, and Acceleration) as listed in the Proposal. Lastly, regarding “a specific class of shares”, I assume that the DAO has equal voting rights and same levels of access to distributions.

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Just curious about the estimated Liquidity (3-6 months) since most of senior secured CRE loans typically have much longer terms.

Also, just to confirm the SOFR is the 30-day SOFR average.

Thank you!

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Yes. Based on previous experience, the nominee director of the Cayman foundation will be treated as the ultimate beneficial owner as there is no shareholder.

For the asset manager, as this will be a pool on Centrifuge the due diligence process has been set by the Centrifuge DAO. More info is here and here. Of course, the fund will be very simple with only liquid T-bills.

The fund we have mentioned will be a pooled investment vehicle solely for T-bills so just the liquid part of the three categories.

The fund shares do not carry voting rights. Access to distributions will be the same for all fund investors.

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Much appreciated for the detailed response.

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Thanks for the discussion and feedback.

We are moving proposal to Snapshot that will go live tomorrow.

https://snapshot.org/#/aave.eth/proposal/0x7889339ebc62182cacccc69efbbf46902995eb4f35f6cf62724ba6aaad3933c7

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Thanks for the proposal @Khan!

We are supportive of Centrifuge kickstarting the RWA process for Aave and the overall structure looks sound.

Being conscious of Aave’s expenses, $1M is doable, however, it would make future stablecoin allocation decisions harder if other proposals were to come up. With this in mind, it could be a good idea to create a GHO facilitator for the DAO’s RWA position.

This would allow the DAO to receive yield on its stables and access GHO liquidity if needed to fund payments to service providers or provide GHO liquidity.

We support starting with $1M, but determining target allocations should be a part of a much-needed, wider treasury discussion.

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Thanks for the support so far! We’ve put up a temp check to get initial feedback on the idea. RWAs are a very new topic for Aave and I wanted to highlight how we’ve structured this proposal to make sure it can be done in a safe manner:

  1. The biggest part in this proposal is to create the legal conduit that allows the Aave DAO to create an entity that can then invest in RWAs. This will take a couple of months and there’s a budget for legal capped at $50’000. This is the first thing to start.
  2. As part of this proposal is a 1M USDC investment in liquid treasuries. Why US Treasuries; they’re extermely safe and liquid. This means if Aave at any point wants to redeem, it will be able to do with a simple governance vote and will have the USDC back at most 5 business days after. The DAO can and should redeem when USDC reserves are becoming too small.
  3. We don’t want this to be cost neutral from the beginning. Deploying 1M USDC means Aave would already see $45-50k in revenue in the first year and break even on the legal setup cost.

We will supply more information before the submission as an ARFC on the exact processes that we propose.

In the meantime, we will continue supporting the DAO in developing an RWA investment strategy for the treasury and working towards a format in which the legal entity can be used to also mint GHO in a facilitator. Given the length that the legal work takes, we think it’s a good idea to start it at this time.

We will also invite the community to more discussion and feedback before we submit the final ARFC in the coming weeks. One thing I wanted to offer as well is to have our team join an Aave Space to discuss this.

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