What is looping, the high-risk strategy producing 60% returns for crypto traders?

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Have you heard of loopback? It’s a risky trading technique that has arrived in the crypto world and offers potentially mind-blowing returns for those with the guts to try it.

As decentralized finance publication The Defiant reports, a platform called Radiant Capital has dangled the promise of 60% returns, more than 12 times better than even the best traditional savings accounts using an automated loop. . Other protocols, including Metronome, also offer a way to automate the risky trading strategy.

Bloomberg recently dubbed loopy crypto-witchcraft, but what exactly is it?

The basics

In traditional banks, customers protect their money and earn interest on their savings. To make a profit, banks lend certain customer deposits to borrowers, who in turn pay a higher interest rate. Banks make money from the spread, or the difference between the rate they pay customers to protect their money and the rate they are paid by borrowers.

Among DeFi lending protocols, the same logic applies, but with a caveat. Many protocols issue their own tokens and distribute them to depositors as an incentive to use the platform. These tokens are worth something and because of that, you get into this weird situation where the lending APR actually exceeds the borrower’s APR, said Sunny Aggarwal, co-founder of Osmosis Labs, which supports the eponymous DeFi exchange, at Fortune.

This presents an opportunity. A crypto investor can, for example, deposit $100 worth of Bitcoin as collateral in a loan protocol. The bank pays him 8% interest on his deposit as well as 2% on his own token, resulting in a composite rate of 10%, higher than the bank’s borrowing rate. The investor then borrows $80 worth of Bitcoin, deposits it again, borrows a little less, deposits that, and so on. Eventually, an investor has inflated the bitcoin shes put into the protocol and earns 60% or more in interest on the initial amount.

There are analogues, for example, of the housing market, says Mark Lurie, CEO of Shipyard, which develops specialized decentralized exchanges for the crypto market. A real estate investor can buy a property, rent it out, and then take out a loan on the house to buy another property. Then the investor rents it out, takes out another loan, and closes the investment again.

The higher you make it, a small change in the housing market can cause it to crash, Lurie told Fortune.

The risks

Like real estate investors buying properties and renting them out through loans, the foreclosure puts traders in balance, Lurie says.

The delicate balance can suddenly be upset if, for example, a protocol changes its lending and borrowing rates or decides to stop issuing its own native tokens to lenders. The more people who do this and pile into a transaction, the more efficient the loan market becomes, and therefore arbitrage disappears, Lurie told Fortune.

There are also platform risks, says Ahmed Ismail, CEO and founder of FLUIDai, which plans to use machine learning to aggregate cryptocurrency prices across different exchanges. DeFi protocol hacks are still common, and sometimes hundreds of millions can be lost. You borrow, you lend, you borrow, you lend, he told Fortune. You multiply the risk.

Additionally, some foreclosure techniques do not rely on the interest differential provided by a DeFi protocol, but on the interest yield tokens, which provide holders with a return on top of the price movement of the asset. -even.

One of the most common examples is stETH, which represents the amount of Ether that someone has actually staked or escrow to help the Ethereum blockchain run. Similar to the previous scenario where protocols distribute native tokens to entice people to deposit, merchants can deposit stETH into a lending protocol and earn interest on their collateral as well as the interest the token provides naturally. This combined rate exceeds the cost of borrowing, presenting another closing opportunity.

However, like the variability of interest rates on lending protocols, the yield of stETH can change, and the more an investor builds a tower, the easier it can collapse when the interest rate of stETH move slightly. It’s more risky than the other, Osmosis’ Aggarwal told Fortune, in reference to looping with stETH as opposed to looping with, say, Bitcoin on a protocol where the rate to lend is higher than the rate to borrow .

Automated looping

Foreclosure as a crypto trading strategy has been around for quite some time, at least ever since DeFi lending protocols first emerged and lured users into issuing native tokens. In bull markets, that happens a lot, he told Fortune.

Now, as the technology powering DeFi has become more sophisticated and transaction fees have come down due to the rise of so-called Layer 2s, some developers are making the trading strategy more efficient, says co-founder Jordan Kruger from Bloq, a DeFi company. It becomes really difficult to manually do this repetitive looping, she told Fortune.

This is why Metronome, a DeFi protocol developed by Bloq, allows traders to automate the yield tokens they decide to loop. And because traders don’t have to manually monitor changes in interest rates, Kruger says, some of the risk disappears. Radiant Capital, the protocol announced in The Defiants newsletter, also offers an automated loop.

That being said, the longer an investor loops, the more risk they take. But for those exploring the Wild West of crypto, the risk comes with the territory.

People who love crypto take extra risk for extra reward, Origin Protocol co-founder Josh Fraser told Fortune.

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