Startups that bridge DeFi and TradFi
The convergence of DeFi and TradFi is firmly underway. For much of DeFi’s history, it has operated as a parallel financial system to the traditional financial system, but that’s changing. We now have the perfect storm of built out infrastructure, mature DeFi protocols and a thawing regulatory environment to make it happen.
Stablecoins have reached escape velocity. Since the beginning of the year, every month the stablecoin supply has broken previous all time highs as stablecoins continue to percolate into existing financial services apps and serve as the foundation for new ones. DeFi protocols are being directly integrated into fintechs, most notably demonstrated by the Bitcoin-backed loan experience offered through Coinbase’s retail frontend and powered under the hood by Morpho.
The way forward is for DeFi to quietly power financial applications globally. A modern, programmable, and more efficient infrastructure for financial services. In my view this is one of the most impact developments in technology already today and will continue to play out over the coming decades.
Below are four categories of startups enabling the convergence of DeFi and TradFi that I’m particularly excited about and will be paying close attention to.
New protocols (e.g. Tenor, Exponent, Extended). Protocols for core financial functions like lending and borrowing, spot trading, and derivatives (futures and options) have largely been built. What remains to be built are protocols more advanced in their functionality that cater to an increasingly sophisticated user base. As TradFi continues to spill into DeFi, more sophisticated users and institutions are starting to use DeFi protocols. Already today, some of the largest trading firms and market makers are active in DeFi. These types of users need products that allow them to conduct their strategies with all the required tooling they have in TradFi. Examples of such protocols include Tenor for fixed rates, Exponent for structured products and Cork for depeg swaps. I expect more of the same financial products that exist in TradFi to be ported over onto DeFi.
Also interesting are products that first emerge in DeFi and are later exported to TradFi. A good example is perpetuals, or perps, which are like futures contracts with no expiry. They first appeared in DeFi, originally applied to crypto assets like BTC and ETH, and are now also used for traditional assets like gold, stock indices such as the S&P 500, and even individual stocks like Tesla through protocols like Extended and Ostium.
APIs (e.g. Bridge, M0). The convergence of DeFi and TradFi is built by developers that are empowered by tooling - connective tissue - that makes their task easier. Some companies in this mould already exist on the stablecoin side, with companies like Bridge and M0 that make it easy for companies to create stablecoins and integrate them into their products. Stablecoins are the beachhead. We’re already seeing companies like Coinbase go one step further by integrating Morpho to build a lending product. The surface area for an API economy that makes it easier for developers to integrate DeFi with TradFi is vast.
Applications (e.g. Dexari, Fluidkey, Legend). Apps provide intuitive user interfaces for DeFi protocols. There’s two types of companies building apps at the moment. On the one hand, there are existing companies with wide distribution, like Revolut and Robinhood, that are adding DeFi functionality to their products, and on the other hand, there are startups like Dexari and Fluidkey built natively on DeFi.
It remains to be seen whether DeFi native applications can carve out large businesses as incumbents move towards them by adding DeFi functionality. I think that applications that ship quickly and execute a flawless go to market have a shot at creating winning products. The challenge for them, however, will be to get to distribution before the incumbents get to innovation.
Wealth managers (e.g. Gauntlet, Steakhouse, Maple). As DeFi has grown, it has gotten more complex and difficult to navigate. Just a few years back, it was relatively easy for users to get an overview of the different yield opportunities, and the protocols themselves were less complex to use. Today is a very different story. It’s a full time job to remain up to speed on everything going going on in DeFi. This has opened up the opportunity for a class of companies to emerge that help users navigate the complexity. Companies like Gauntlet, Steakhouse and Maple are building DeFi-native asset management businesses, the equivalent to Wealthfront and JP Morgan Asset Management in TradFi. The opportunity to build businesses that manage capital on behalf of users will only expand as DeFi grows.