How to earn 20% APR from a dollar saving account? — Anchor’s high-yield savings protocol (Part I)
If you deposit $100 today to a traditional bank, you get $0.22 in interest in a year’s time. The current USD 1-year interest rate is around 0.22%. So how is it possible to have a 20% interest rate from a dollar savings account? Well it’s impossible from a traditional bank, but it is possible from a Decentralized Finance (DeFi) platform such as Anchor.
“Anchor is a saving protocol on the Terra blockchain, which provides principle protected stable interest rate on stablecoins such as UST. To generate yield, Anchor lends out deposits to borrowers who put down liquid-staked Proof-of-Stake assets from major blockchains as collateral. Anchor’s yield is thus powered by block rewards of major PoS blockchains.”
Anchor’s high-yield saving protocol is similar to the traditional saving account where depositors receive interests for locking up their money with their banks, except that the interests are boosted by staking rewards from major proof-of-stake blockchains. This article will explain step-by-step how to use Anchor protocol to generate an annual yield of 20%. It also explains the potential risks and downside involved in these activities (even though it is a principal protected product!).
Before going into the details, here are the Terra and Anchor tokens that you need to get familiar with:
- UST: TerraUSD is the decentralized and algorithmic stablecoin of the Terra blockchain. It is a scalable, yield-bearing coin that is value-pegged to the US Dollar (source: CoinMarketCap).
- LUNA: The governance and staking token of the Terra blockchain, which is also the essential coin that keeps the UST pegged to the US dollar.
- ANC: The governance and staking token of the Anchor protocol.
- bAssets: Bonded assets (i.e. bLUNA, bETH) are tokens that represent a staked asset (i.e. LUNA, ETH). bAssets give out block reward to the holder and are fungible and transferable like the staked assets.
How does it work?
Suppose you have $100, how can you use Anchor to realise an annual return of 20%? In a nutshell, you need to first provide bonded assets (bLUNA) as collaterals; then borrow a stablecoin (UST) against the collaterals; deposit the borrowed stablecoin to earn ANC reward token. The rewards received will be much larger than the interests to be paid for the borrowed stablecoin, therefore reaching a net APR of 20%. With the ANC token, you can further stake ANC to obtain governance rewards (8.5% APR); or you can provide liquidity (LP) to the ANC-UST pool (78% APR) if you have both tokens.
It probably doesn’t sound straight-forward, so I am going to show you the step-by-step guide below. I will also show all the transaction fees I paid in the end.
- Assuming you already know the basics of how to deposit fiat to buy Crypto from a digital wallet and you own 100 USDT (Tether USD), you need to first have some LUNA in your wallet. You can go to Uniswap to swap some LUNA from USDT (I have swapped 100 USDT for 3.4216 LUNA).
2. Download the Terra extension to your Chrome and create a Terra wallet. You need the Terra wallet on the Terra blockchain to participate in Anchor.
3. Bridge from Ethereum Mainnet to Terra network here to send LUNA to your Terra wallet. You will see my LUNA has decreased slightly from 3.42 to 3.39 after bridging due to transaction fees.
4. Go to Terra wallet, you should see the LUNA that’s been transferred. Then swap LUNA for a small amount of UST because transaction fees on Anchor is paid in UST. I’ve swapped 29 UST equivalent of LUNA.
5. Go to Anchor, click the “Bond” tab to swap LUNA to bLUNA, which will be used as collateral for borrowing UST in the next step.
6. Go to “Borrow” tab and scroll down to find the collateral list. You should see the amount of bLUNA you swapped from step 5 showing up here. Press “Provide” button from bLUNA, enter the amount of bLUNA you want to deposit as collateral. You’ll also see the corresponding borrow limit for UST depending on the amount of bLUNA collateral entered.
7. Enter the borrow amount. The loan is always over-collateralised, meaning you cannot borrow more than the value of the collateral. In this case, you can only borrow up to 60% of the collateral’s value. Here I borrowed 45% of the collateral’s value, leaving some buffer from the maximum LTV. The borrow APR 21.7% is the interests I need to pay, which seems very high! But later on you will see the distribution APR is even higher, resulting in a net positive APR of 17.39% for me.
8. Go to “Earn” tab, click “Deposit” to deposit the borrowed UST to earn interests. Here you’ll see the amount I deposited is more than what I borrowed because I also deposited the UST I originally had in the wallet.
9. Now everything is set, you can sit back and earn ANC. I can already see some ANC rewards right after I finished. I can also see my net APR is 17.39%, which is the difference between the reward Distribution APR (39.09%) and the Borrow APR (21.7%).
10. You can further stake or LP your ANC by clicking the “Govern” tab. The staking APR at the time of writing this article is 8.5%; the ANC-UST LP APR is 78%.
11. Here is a summary of all the fees I paid from previous steps. You can see the largest portion of the fees comes from swaping USDT to get LUNA. The other fees incurred on the Anchor platform is quite minimal.
Any downside?
Now you know how to earn the 20% APR (to be precise — the 17.39% at the time of writing), you might wonder if all of this is too good to be true. Is there any downside? Sam on DeFi has explained some of the risks here very well. I’ll expand the list with my own opinions and also summarise his points briefly in the end.
- Risk of being forced out of the loan. You might notice the loan-to-value (LTV) in step 7 (45.06%) when I completed the borrowing of the loan and the LTV (45.71%) in step 9 when I summarised my positions are slightly different. This is because during this short period of time, the value of the loan in UST relative to the value of the collateral in bLUNA has increased; or equivalently bLUNA has depreciated against UST during that time. If bLUNA’s price keeps dropping and UST stays the same, the LTV will keep rising. When the LTV reaches its maximum level 60%, you either have to pledge more collaterals (bLUNA) or you’ll be forced out of the loan.
- Risk of holding the bonded asset. Once you are forced out of the UST loan, you only hold bLUNA, which is now decreasing in value as described in 1. So you could end up holding a volatile token that’s losing value rather than a stablecoin such as UST. If you have faith in the project in the long run, this doesn’t matter and you will hold bLUNA. But if you want to liquidate and exchange bLUNA to a stablecoin, the mark-to-market value of your bLUNA will be much lower and you might be in loss.
- Risk of stablecoin becoming unstable. This is the risk of a stablecoin losing its stability and safty fluctation range and is no longer closerly pegged to the fiat currency such as USD. More details are explained here. In this case, the loan you borrowed in UST or any UST you hold in your wallet will lose value against USD.
- Risk of lower APR. Although Anchor aims to keep the net APR at around 20%, the rate can fluctuate depending on how many people provide collaterals to Anchor (see more details here). The more people, the more rewards; hence the APR can reach its target 20%. On the other hand, if any of the above 3 risks happens, people might be rushing out of the protocol and the fewer people, the lower the APR.
- Lastly, as Sam on DeFi mentioned here, there is always the smart contract risk where hackers find loopholes in the code and attack the protocol.
Summary notes
Now you know how to participate in Anchor’s high-yield saving protocol and also understand the risks involved, will you give it a try? Anchor’s vision is to become the gold standard for passive income on the blockchain, eventually setting the blockchain economy’s benchmark interest rate. Whether this will come true, it is surely an innovation in the field of passive DeFi investment and could set paths for many others to come.
This is part I of the Anchor high-yield saving protocol. In part II you will see how to stake ETH in Lido and use bETH as collateral to borrow UST on Anchor.
