🎙 "There's Going to Be a DeFi Universe Geared Towards Non-Fungible Assets:" NFTfi's Stephen Young

In this week’s episode I speak with Stephen Young, the founder and CEO of NFTfi, a platform for enabling NFT-backed loans. For some people, decentralized finance and nonfungible tokens sit on two separate worlds; DeFi on one end with its different lending, boring, and trading applications, and NFTs, with their digital art, music royalties and collectibles. Entrepreneurs like Stephen sit at the intersection, with a platform that uses NFTs to provide a financial product.

Stephen believes there will be a growing ecosystem of financial applications built specifically for NFTs, from lending to insurance products. We talk about how NFT-backed loans work; what are the rates, the terms and what happens in the eventual case of a liquidation. Stephen says, unlike loans backed by fungible tokens like ETH, many lenders on NFTfi are hoping the borrower defaults so they are able to keep the Bored Ape or the CryptoPunk securing it. He says volume on the platform is booming, as many new NFT owners find they can now get liquidity from digital property they don’t want to sell, while lenders can get more attractive rates for their crypto. Stephen believes this is just the beginning, and that eventually, real-world assets will also become digital property incorporated in the growing world of NFT and DeFi.

This episode of the podcast was recorded for the Blockchain Summit Latam conference.

The podcast was led by Camila Russo, and edited by Alp Gasimov. Transcript was edited by Camila.

🎙Listen to the interview in this week’s podcast episode here:

You’re a paid subscriber, which means you get the full transcript below. Subscribers also get exclusive access to The Defiant’s Discord chat for the community, here’s a new link to join.

Share The Defiant

Stephen Young: So I've been building software products for almost 20 years now. Originally in the finance space but my original background was I was an artist but also computer programmer and then had to decide between becoming a starving artist or a computer programmer where you can pay the bills. So decided to do it the way that paid. And, but I've always been kind of painting and doing art in the background. I've been doing some generative art over the years too. So I'm originally from South Africa. My first job I was working in London and in 2016 I worked out that I was earning more in my first job than I was in my current job because of the drop in the purchasing power of the Rand, so that I got interested in crypto very quickly as a way to kind of escape the spiraling currency.

So then in 2017, 2018, I started full-time into crypto was mostly on the exchange and trading side. But then left there. And in late 2019, I was having a conversation with one of my best friends and he's been a very early CryptoKitty and NFT collector. And we were talking about the NFT markets and Ethereum and so on. And he was saying that they were looking for ways to do loans essentially. So there was a whole bunch of them that were on spreadsheets, they were lending money to each other and keeping track of if you owed what to who on the actual spreadsheets. And I said like, can we do this as a smart contract? And basically that's where we started.

Camila Russo: So people were already lending out their NFTs, but keeping track of everything in just like in a spreadsheet?

Loans on Spreadsheets

SY: Yeah. So as a group of guys, who'd all been like trading together for a long time. A lot of the names you'd probably recognize now as the big NFT influences, I won't dox them in public today, but yeah, so they were, they knew each other. So they'd been kind of friends for two or three years and they'd sometimes need liquidity for different projects. So they were just in a friendly way, keeping track of who owed what, which assets that you used as collateral, and then just kind of on a friendly way between friends do it. And then we essentially wanted to figure out how do you expand that outside of, you know, a trust group, which is obviously what blockchains are made for. So we really just took almost exactly what was in that spreadsheet and then designed a smart contract system that would work that way.

“So we really just took almost exactly what was in that spreadsheet and then designed a smart contract system that would work that way.”

CR: Okay. So the basics of it is, the reason to do this is basically you have an NFT collection and you don't want to sell it, but you need liquidity to trade more crypto or, I don't know, potentially buy stuff with crypto. So the way to get that liquidity without having to cash out on your NFTs is lending those NFTs in exchange for crypto, and then paying an interest rate to whoever is lending you that crypto and holding your NFT.

SY: Yes, that's correct. So different use cases, but for some people they just like being liquid. So, you know, with these massive rises in prices, a lot of our users were students and they'd been buying Punks when they were still less than one ether. All of a sudden they end up with a significant amount of money and it represents quite a large portion of their actual capital and their wealth. So some of them, what they will do is they'll take out a loan and then just so that they are liquid, so they can do other stuff.

Sometimes there'll be flipping. So they'll see flipping opportunities. Other people will put that money in a yield farm and then earn more than they're paying interest. Other people are, they know a big drop is coming and they want to get in on the drop. So those are kind of the main reasons.

And one clarification, there is the other person doesn't ever hold your NFT. The NFT goes into our smart contract to be held as escrow. So in that way, you're guaranteed that if you repay, you will absolutely 100% get back your NFT. And at the same time, the, the lender is also guaranteed that if you don't repay we will transfer the NFT back into their account.

Bored Apes for Blue-Chip Loans

CR: Okay. Got it. What kind of rates are, are there for these loans?

SY: It depends quite a lot on the actual projects. So the, the kind of real blue chip established projects, things like CryptoPunks, Bored Apes Yacht Club, are sort of starting to fall into that territory, Art Blocks, or similar to those projects, you're probably seeing 18 to 25% annual percentage rates. For the more risky projects and especially the one-on-one art, which you're not always guaranteed to very easily find a secondary market for, you can see up to 60 to 80% APR. So it depends.

And then also shorter term loans. Often people need them in a hurry. So if they just need something for seven days often that's because, you know, they made a trade somewhere else on margin and they need quick liquidity to be able to close their positions. For them you'll also see higher APR. So, you know, 80 to 120% sometimes. But for blue chip assets over a longer period, like 20 to 40%, I think it's reasonable.

CR: Okay. So that means it's, they're pretty high rates, but on the flip side, it means that it's also an opportunity for, you know, people who have crypto assets. You can gain a very decent interest on the crypto as well.

Hoping for Default

SY: Exactly. Then the other reason people act as lenders is often they'll be offering loans on assets that they want anyway. So they're almost hoping that the person doesn't repay. So you'll see people giving quite high loan to value ratios at quite attractive APR on these high-value assets, because, you know, so typically you see if the asset is worth 20 ether, you'll probably get a loan of over 10 ether and on it. So, but you can imagine, you know, with CryptoPunks, you could quite easily sell that for 75% or 80% of the actual value. So, the default is normally more profitable than like actually getting a loan repaid. And secondly, a lot of these assets are assets that don't trade all that often that people tend to want to hold onto, but they need some liquidity. So you kind of get a chance at getting something that you probably normally wouldn't get an opportunity to buy.

“Then the other reason people act as lenders is often they'll be offering loans on assets that they want anyway. So they're almost hoping that the person doesn't repay.”

CR: That's really interesting. So on a liquidation event, how are those prices tracked? That would be a challenge compared with like an equity loan, because the market isn't as liquid as with regular crypto. So you need to kind of really, you need a very good oracle, right. To be tracking kind of what the lower prices is for all of these assets are held under collateral.

SY: Well, so that's why we actually, we don't track the prices. So the model we have is actually common in the art world. is that it’s a no recourse loan. And the way that it works is that you essentially agree with a lender, a specific time period, and a specific repayment amount. And then you've got that time period to repay. If in the meantime, the market crashes, it's up to you to decide if you want to repay.

So we don't actually keep track of the prices. We don't set a price. There's no auto liquidations. You know, the loan is for a specific period and a specific repayment amount. And I think that's actually quite important for the NFT market, because a lot of people, they don't want to accidentally get liquidated because something happened in the market. Like people have this emotional attachment to these NFT pieces that they own.

I know at least one user who often takes out loans and repays them the same day, but he’ll take out a 30-day loan because what he's going to be doing is going to go do a trade on margin. And if the trade doesn't go his way, he wants the two days to be able to find the money, to be able to get his NFT back. So he's willing to pay, you know, all of that extra costs, just so that there's not a chance that he accidentally loses his assets. So yeah, so that's how we work.

We don't rely on pricing. I think there's lots of projects working on this problem of NFT oracles and NFT automatic pricing. I think that's a quite difficult problem to solve. I think you can do it for floor assets, but most of the time, our loans actually aren't for floor assets, therefore kind of the height, most of the volume comes from the rarer items and the more valuable products.

CR: Oh, interesting. So each loan has its own specific terms and the lender and borrower agree on those terms. So there is the duration of the loan, the rate, the price of the collateral, and I guess how and when it's paid, like, are people just paying interest every month or every week and while others are making all the interest payments at the maturity of the loan?

SY: Yes. So the way that it would work is, so you've got a Bored Ape you want to get a loan on, you come to our websites, and then you just sign a message saying that you're willing to use that as collateral. So it doesn't cost you anything. So I think that's quite important that it doesn't cost you anything to list something. And then multiple lenders can bid. And so you should get multiple offers on that. So when you listed, you can say, well, I'm looking for a loan for 15 ether and I want it for 50 days. And then, I can then go on and say, okay, well, I'll give you 28 ether over 30 days, and I want 29 ether back. But then other people can also make you an offer. And then you pick whichever one is the most attractive to you.

And then at the moment, all of our loans are paid in full right at the end. So no repayments, because as soon as you start doing repayments, it starts getting a little bit more complicated with liquidation. So, you know, the way loans work right now is either you pay everything or I get the NFT, whereas as soon as you start doing repayments, then it's like, okay, well, I've repaid some, like, how we liquidate that NFT?

“At the moment, all of our loans are paid in full right at the end. So no repayments, because as soon as you start doing repayments, it starts getting a little bit more complicated with liquidation.”

So we are working on amortized loans over longer periods. But for that you'd need a liquidation mechanism. And at the moment, what we would be planning on doing an auction mechanism, but that's not, that's not live at this stage. The current loans are fixed, period. You either repay everything in full at the end or the lender gets your NFT.

CR: Right. Okay. Yeah. That kind of simplifies things. And you were saying that the price of these loans is like what's the loan to collateral ratio, usually?

SY: It's usually around 50%. But then you'll see, especially on the blue chips often that goes higher and that's normally when the lender is hoping that you'll default. So, so that, cause they want that asset.

CR: That's so interesting. Okay. How much volume are you seeing? Like how much demand is there or something like this?

$10M in NFT Loans

SY: Yeah, so we started in June last year. So you can imagine the market wasn't anything like it is today and it kind of started relatively slowly. And we've kind of, since in the last four to five months, we've seen a huge increase. So we've done in total, we've done just over $10 million in loans of which 3.7 was last month. And we were already on one and a half million this month. So we're looking probably at like $4, maybe $5 million in volume this month. So it's picking up at the moment, our average loan size is $25,000. So relatively high value assets. But it's picking up, you know, kind of growing between 70 and 200% a month at the moment in terms of volume

“We've done just over $10 million in loans of which 3.7 was last month (…) we're looking probably at like $4, maybe $5 million in volume this month”

CR: And how many users are there?

SY: So we've got about two and a half thousand people who've listed and made offers. But about 400 people have taken out loans and just less than that have actually made the loan. So a lot of it is the same people coming back and back. So once people have done one loan, you've seen them kind of using it over and over again. And so it was really high volumes from quite a small number of users still.

I think, especially now in the last few months, a lot of the people who own NFTs are actually quite new to the space. So I think it takes a little bit of time for people to go from buying first, getting something through and then buying their first NFT to then starting to think about them as assets that you can actually make productive. And then you don't have to sell them if you need some liquidity.

CR: So interesting. Of that $10 million in volume how much of it has been paid?

SY: Yeah, so we get 19% default rate at the moment. So more than 80% of the loans get repaid, it depends a little bit on the markets. So, you know, when the prices just keep going up, then obviously all the loans can be paid where you'll see more defaults if there's a huge drop, either to NFT markets or if the ether shoots up really quickly. And if you take out an Ethereum loan and then the price of Ethereum doubles or triples in the time of the loan, then you'll see a few more defaults. The Dai, stablecoin-based loans, a little bit higher repayment rates because you don't have both the NFT prices and the Ethereum price fluctuating. So it's a little bit more stable.

CR: Very cool. So in the term like for NFT lending, I'm trying to make parallels with the traditional finance and so in, in traditional finance you have different models of asset-backed lending and on one extreme is like the safest kind of asset-backed loans, which is kind of like a home equity loan. And then there's like a pawn shop. So for like NFTs, where, where do you see this evolving to like, will it be just like very risky asset-backed loans? Or do you see it like going into just like very high-quality credit?

NFT Segmentation

SY: I think so. I think we are so early in NFTs, so we can still talk about NFTs as if they're one thing. And, and if you think about in the real world, you know, so you get fungible things and nonfungible things. And in the real world, the fungible things are money and stocks and commodities basically, and everything else is nonfungible. And in crypto, we are so used to kind of that we started with fungible things first that we forget that most things aren't fungible and in NFT really, it's just a unique digital thing. And then, so that could literally be anything. So the design space is almost infinite in NFTs. We will be able to be speaking about NFTs as a thing on its own.

So we've got art and then we've got generative art. And then I think we'll have real estate NFTs and music rights are gonna start becoming an asset class on its own. IP with IP royalty flows are going to become a thing on its own. So I think that you're going to see the market splitting into sub categories, and I think some of them are going to be pawn shop, like, so, you know, there's always going to be the equivalent of the next profile picture craze, where there's a million different projects all coming at the same time. And then on the other hand, on the other end of that spectrum, you know, if it's Madonna NFT representing rights to her music royalties, or like you know Beatles NFT, like those are gonna be pretty blue chip.

So, so I think it's going to split. I don't think you can put it into a single bucket. And that's part of the way we designed the protocol is that it's more of like an NFT agreement protocol and we're doing loans first, but we can add more and more types of agreements going into the future. So, you know, in these kinds of yield-bearing NFTs, you can imagine a loan where you take out the loan and the loan is actually paid off by the NFT itself with the royalties it's receiving. So you can take out the loan and it'll kind of pay itself back, and then you can pull some more out and it'll pay itself back. So, you know, there's going to be lots of design spaces are super exciting. So it's part of the reason I'm excited to be in the NFT space so early.

“We designed the protocol so that it's more of like an NFT agreement protocol and we're doing loans first, but we can add more and more types of agreements going into the future.”

CR: Yeah, very cool. For NFTfi what's the business model? Do you get a percentage of the loan?

Gradual Decentralization

SY: Yeah, so we take a percentage of the interest earned on the actual loan, and if there's a default, we don't take anything. So essentially if somebody is making money on the transaction, we take a small percentage, 5% of the interest. And if there's a default, we don't take anything

CR: With how things are evolving in this space, I have to ask what's your road or plan to decentralize, if any, will you have a token, will you become a DAO?

SY: Yeah. So I think decentralization is important but at the same time, I also think when you decentralize and who'd you give ownership to is also important. So, you know, for us, it's important to get enough people actually using the platform so we know how to distribute tokens. But yes, we will eventually move to a DAO structure. One of the things we do on our platform is that you can't get a loan on any asset because you know, it's too risky, right? Anybody can deploy a contract that looks like a Punk and then people lose their money. So we have to approve NFT contracts before they can be used as collateral on our platform. So that'll be one of the first things that we're going to hand over to the community to manage.

So we shouldn't really be the ones who are gatekeeping, what projects you can use as collateral, the community should be able to vote to add and remove projects from the platform. So yes, we will eventually decentralize we just want to make sure that we do it at the right time and, you know, we don't really want to have — you know, I often see this where people release a token and then there's the number go up crowd comes in and everybody is just, when moon, when moon and I don't think that that's a healthy way to kind of grow a decentralized community. You really want to make sure that the people actually using these platforms and all the people who they take on ownership of the platform. So, so that's very important for us to get right.

NFT-DeFi

CR: And then I want to get your thoughts on NFT-DeFi more broadly, like how, how else do you see NFTs integrating with decentralized finance?

SY: Yeah. So I think you know, where there's value there's finance, right? So, you know, there's money in these NFTs and there's going to be more financial needs for them.

I think that what a lot of DeFi projects are doing right now that are trying to get into the NFT space, is they’re trying to take the N out of NFT. So they're just trying to make the nonfungible tokens fungible. And I think sometimes it's useful, especially for floor assets. But I do also think that there is something inherently different about the “non” of NFT tokens. And I do think there's going to be more and more financial services that are required, like things like insurance, rentals, hedging, you know, I think there's a huge space and I think there's going to be some overlap into the traditional DeFi universe, but I also think there's going to be like a whole new decentralized finance universe specifically geared towards non-fungible products as opposed to trying to make non-fungible tokens fit into the existing fungible token decentralized infrastructure.

“Where there's value there's finance, right? So, you know there's more money in these NFTs. There's going to be more needs for them.”

CR: Okay. Yeah, that makes sense. So you're, you're foreseeing this NFT-DeFi space evolving so that there are more financial services catering specifically to NFTs like insurance against your entities and so on.

SY: Yeah. And hedging and so on.

CR: Got it. I want to ask you about the moment in the market that we're in, which is, seems to be just like mind-blowing, you know, every day, a new drop, so much hype, all this frenzy and so much innovation as well, like the latest, big thing with, with Loot and how quickly that that took off. So want to get your thoughts on this market? Is it a bubble? Is it going to crash? What's sticking around? What's a fad?

SY: Yeah. So I do think things are frothy. You know, so there's a lot of people coming in who don't even know what they're buying. They're just buying things because you can pretty much buy anything and the price is going to be double or triple in a week's time. So I do think there is an element of a bubble. When it's going to pop, you never know.

It doesn't mean that these projects aren't worthwhile. So, you know, so in the same way that, you know, in early, like in 98 there was everything with dotcom at the end of the name would like their stock price would triple or quadruple in a few months. And then a lot of stuff crashed, but Google and Amazon were like one of those things.

I think the Googles and the Amazons of NFTs are around now. Also, I think there's lots of pets.com things that basically just went nowhere. So so I think be careful in general, I recommend people to buy things that they wouldn't mind keeping anyway, especially if they're buying art. So worst case scenario, they end up with something that you love. But I do think there are certain, I've got my favorites in general. I looking for, I like on the art side, things that are kind of crypto native that you couldn't really do before. So I think Ar Blocks kind of falls into that category. I think Deafbeef does a lot of really cool stuff with his music and, you know, how they degrade at each time they get transferred. So there's, you need a smart contract, the contracting platform to make that art piece work. I think Avid Lines falls into that category.

So I think there's a few of these projects that are just digitally native and it's like a new form of artwork that just wouldn't work if the blockchain wasn't there. At the same time also think just traditional art, kind of digital art coming onto the blockchain. That's also interesting. But I think, you know, when people write the art history books, it's going to be projects that are genuinely doing something new where the smart contract is part of the artwork, if that makes sense.

“When people write the art history books, it's going to be projects that are genuinely doing something new where the smart contract is part of the artwork”

CR: Yeah, totally. It's, you know, paying attention to them, to the medium and the innovating together with it. Yeah, it’s been really exciting to see. On our previous podcast episode eh, John Crane of SuperRare was talking about this new art revolution the first art revolution of the internet era. And I thought that was a really cool concept. I think we're, we're, we're living in, right.

SY: I completely agree. I completely agree. And, and, you know, it's, so in some ways some of these prices seem crazy, but then you also think, well, like what's a Rothko selling for nowadays, you know, $65 million. So, and you could have bought them, you know, when he was painting them for, you know, a fraction of that price. So I think they are some of these things that are gonna stick around. Do I think, you know, a rock is worth 888 ether. I'm not sure. But like, I do think, you know, things like Autoglyphs pretty much anything that Larvalabs does is going to stick around even that still prices are going to correct, you know floor prices of $200,000 plus dollars on Punks, you know it's not just going to go up. Things are going to go up and down, so just be careful, you know?

CR: And then for NFTfi in the longterm, what's kind of your vision, where do you want it to go in the next decade?

SY: Yeah. So, like I said earlier, you know, I think there's these NFTs really are kind of the foundational building block of like a whole new economy almost. So if you think we've now got internet native money in the form of cryptocurrencies, and then we've got internet native property rights in the form of NFTs. So, and I think we're kind of building this whole new, I call it a metaverse economy, but it's like a full virtual economy with all of the components that you need, that where everything going to happen fully digitally. And this is all going to build a whole new financial system and this new, weird thing is coming that none of us can really think about, in the same way that when the first websites were being built, you know, we weren't thinking about Instagram and Facebook and cryptocurrencies and VR worlds and so on.

“We've now got internet native money in the form of cryptocurrencies, and then we've got internet native property rights in the form of NFTs.”

So, I think it's going to be like a whole new world that we building. And then our role in that is, you know, so we really want to find a way to kind of bringing financial infrastructure to NFT. So that these projects that are doing and experimenting with NFTs, and they want to be able to plug in financial services into them, they can just use us and they don't have to kind of build that themselves so they can go innovate in other areas in the same way that things like Stripe allow you to go, you know, you can do you can build whatever you want and sell whatever you want. And there's been a way to receive payments. We want to kind of be that infrastructure, financial infrastructure layer for like this whole new NFT financial world that's being built.

CR: Right. I mean, if we look into the future, like you said, NFTs will start to split into different categories in the end. So will platforms like NFTfi and others, it looks like they will start to just feel like, like a bank, just like, you know, a platform where people can buy, sell and borrow assets.

SY: Exactly. Exactly. And there's going to be things that you just, that a bank just could never do, lile that previous example of like an NFT paying off the loan itself, you know, you couldn't do that in a bank. So I think there's going to be, there's going to be loads of things that we just couldn't do in a bank, but we will do everything that you could do with a bank you'll be able to do with with NFT and a whole bunch more. And then also think you're going to start seeing more and more real world assets represented as NFTs. And then you'll have centralized entities that kind of manage that link between the real world and the decentralized virtual world. And then, but then once you bring this real world assets into this ecosystem, you can then apply all of these same tools to that going forward.

CR: Oh yeah, that's, that's a whole new world too, real-world assets on the blockchain. I think it's kind of one of the earliest use cases that people thought about, like supply chain. Yeah, like I remember one of the first Ethereum conferences sushi on the blockchain things like that. I don't think like really haven't figured out. But I think they, they will at some point, right?

SY: Yeah. Yeah. I think if you look at traditional collectibles market, you know, so watches are a great example. So a lot of people buy these watches, stick them in a vault, and then five years later sell them, right? So they buy rare watches directly from the manufacturer. So why do they have to take delivery of that asset? What if the, what if the manufacturer keeps it in their vaults and you buy an NFT representing your ownership of that asset, and then you can trade it you know, so that's that's very close to what's what these collectible projects are. And then it just gives the, the actual manufacturers a way to capture part of the secondary market sales on top of those things. So I think it's coming I think luxury goods, collectibles, you know, all of those kinds of things, they're gonna make their way on quite soon, property is coming. musical royalty rights. It's just like the opportunities are endless.

Share The Defiant

The Defiant is an information platform focusing on decentralized finance, a new financial system that’s being built on top of open blockchains. The space is evolving at breakneck speed and revolutionizing tech and money. Spread the word and share!