5MF Issue 3: DeFi & Compound Finance

DeFi, Compound Finance, and Lending

On June 16 of this year, crypto startup Compound Finance launched its lending protocol. The buzz was immediate, and decentralized finance (DeFi) suddenly became a hot topic in the media again.

The meteoric rise of Compound Finance should also cause bank executives to take note, because crypto startups are beginning to recreate banking functionality - only without banks...or bankers. All of this falls under the umbrella term 'DeFi' - applications that enable cryptocurrency to recreate the functionality of banks and other financial institutions without the need for intermediaries.

Before we dive into Compound Finance, let's go back to last week's piece about core banking. This is the graphic I used to illustrate all the basic functions of a generic bank.

There is a lot of infrastructure required to do everything a bank does, but in talking about the early stages of crypto, it's more helpful if we zoom in and focus only on the most basic functions.

But this still isn't basic enough. Before you can work on things like lending or deposits, you need a fundamental ingredient: accepted units of currency.

This is what Bitcoin, Ethereum, and other tokens accomplished during the first phase of their development. While we have no idea what will happen in the future, Bitcoin has proven to be a resilient unit of currency so far.

We got the currency. Sweet. Now, we can slowly start building a bank.

Compound Finance is focused on a very simple form of lending. By using crypto tokens as collateral, borrowers can get loans; and by lending out their crypto tokens, lenders can earn interest. All of this is much more automated than it would be at a bank.

The end product looks a lot like a money market account from the perspective of the lender. I put 20 BTC into an app that uses the Compound protocol. I then get back 20.01 BTC the next day. Like a savings account or money market fund, my BTC isn't just sitting there, it is flowing through the economy, doing things - which is why it generates yield. Of course, so much of crypto is still highly speculative, which should still give inexperienced crypto investors plenty of reason to think twice.

Compound built its functionality on Ethereum, which is where you will find the vast majority of 'banking' apps in the crypto ecosystem today. Ethereum enables decentralized apps (dApps) to leverage smart contracts that automate the functionality of banks, only without the sophisticated systems and small army of employees that banks require to accomplish the same things.

It is important to note that Compound is a ‘protocol’. This means that a variety of third parties can leverage their functionality, which they do. Current partners include Coinbase (also an investor), Binance, and Bitgo. The protocol is open source, which also means that different flavors of the protocol are likely to emerge. This is what makes the whole ecosystem full of potential: when all you need to do is fork some code, the speed of innovation is exponentially faster.

Compound offers a number of tokens via its protocol, and rates fluctuate constantly. This allows investors to change their concentration of tokens in order to generate the highest possible returns. This is a process commonly referred to as 'yield farming' or 'liquidity mining'.


Crypto is still in a very early phase of development, but this is an exciting development...and one that should puts banks on notice. Matt Levine likes to say that "Cryptocurrency markets keep rediscovering financial history for themselves."

Of course, that seems to be the entire point: to rebuild the entire financial system from scratch, only without the banks this time.


Tom

Sandeep

Sandeep: Tell me a bit about the early part of your career.

Tom: I spent a decade helping to build start-ups focused on application and database software. This was where I learned how to sell and do business development. I was fortunate to be part of one company going public and another being sold to IBM.

Sandeep: What is something you learned during this time that helped you with consulting?

Tom: I began to appreciate how different customers achieved varying levels of success with the same foundational technology. This made me understand just how critical getting your team and process right can be.

Sandeep: This is something I only came to appreciate years into consulting, especially after the sale of my first consultancy to Capital One.I saw teams in different parts of the company trying to solve challenges like real-time messaging. Same corporate culture, same technology, same internal support mechanisms. Night and day outcomes.

Tom: We saw a lot of the same thing after selling our practice to EMC (sold to Dell in 2015). This is probably the thing I'm most proud of when it comes to the teams I've helped to build: the ability to perform well in a variety of contexts, sometimes in ways that inspires the client team to up their game as well.

Sandeep: Yes. It's particularly cool to see your team succeed in individual ways after an acquisition...consulting skills definitely translate into the corporate environment.

Tom: Totally. We have people who've stayed on at Dell and risen up the ranks, while others took the opportunity to become successful executives at other Fortune 100 companies....or to start their own agencies and startups.

Sandeep: We've both been around a while. My first consulting project was a Y2K thing for Cisco back in 1998. You've been around a little longer than that :). How do you think consulting has changed most during the past five years?

Tom: I think because there is so much infrastructure available now, consulting has become more delivery and outcome-oriented. A better blend of strategic and tactical. Public Cloud has also enabled velocity to increase at a pace unfathomable 5 years ago.

Sandeep: What has stayed the same?

Tom: It's still mostly about people. People who thrive on change and are focused on their personal and professional development. I love that this has not and will not change...it's what I love about consulting.

Sandeep: I know you're adjusting your work style to COVID. You're still a dude who clearly prefers to drive an hour for a socially-distanced hike or outdoor meeting over Zoom any day of the week :) But personal styles aside, what is specifically compelling about a remote agency during the era of COVID?

Tom: Kunai has been remote for years, which gives them an inherent advantage. There is something about the communication and management styles that just works in a way that other organizations are still figuring out.

Sandeep: Yeah, I think what a lot of people fail to realize is that remote work isn't just office work over Zoom. it's an entirely new paradigm. There needs to be an understanding for asynchronous efficiency...and this just takes time and effort to develop. How do you approach remote work and family? What are you learning about separating work and personal time?

Tom: No matter what the form of interaction, Focus. Be present. Quality over quantity. The best weeks are the weeks where I proactively schedule work and personal time. Neil (Kunai's Head of Delivery) shared a great quote with me "With discipline comes freedom." When I am proactively addressing the majority of my professional and personal commitments, I find I earn a little flexibility. A little freedom.

Sandeep: Tell us about a business hero of yours that I may not have heard of before.

Tom: Paul O'Neill is someone you may not know. His work in both the public and the private sector created a profound impact

Sandeep: We are both over forty years old :). How have you learned how to work smarter during the past decade or so? What do you wish you knew about consulting when you were 25 that you know now?

Tom: Consultants want to make lasting change. Lasting change is often not the act of a single person. Today I work much harder bringing others along on the journey.

Sandeep: Last question. What are you doing here? :) Why join a small consulting company this late in your career when you could have a cushy job somewhere else?

Tom: I love a good challenge personally and professionally. When I turned 40, I decided I would run a 10K every Thanksgiving weekend and try to have my finishing time be less than my age. With the exception of one year where I did not run due to a health issue, I have met the goal. I also recently completed the Leadville 100 Mountain Bike race. So, I guess I'm here because I'm a glutton for punishment :) Jokes aside, our customers have a job to do and I intend to put Kunai in a position to execute flawlessly on their behalf. I love committing jointly to audacious goals for our customers and our business.

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