Overview of the Development Status of NFT Lending Protocols What Innovations and Problems Need to be Solved?

Author: @mitchelljhammer; Translation: Huohuo / Plain Blockchain

The price of NFTs may have dropped, but NFT lending is gaining momentum. Over $2.1 billion in loans have been issued on Ethereum’s NFTs this year.

This is equivalent to twice the art loan portfolio of Sotheby’s and about 10% of the total art loan market. So how does NFT lending work? Why should we pay attention?

1. Current Status of NFT Lending

NFT lending protocols allow holders to obtain liquidity without selling their NFTs. Users lock their NFTs as collateral in smart contracts and then withdraw liquidity.

Currently, there are mainly two lending models in the market: peer-to-peer (P2P) and peer-to-pool (P2Pool).

Peer-to-peer (P2P) lending: P2P lending protocols include @Arcade_xyz, @NFTfi, @the_x2y2. These protocols match individual lenders with individual borrowers based on preferences. For example, if I want to lend to a Beanz holder, I can search for loan terms that meet my risk/reward requirements on @NFTfi.

Peer-to-pool (P2Pool) lending: P2Pool lending protocols include @BendDAO, @LianGuairaSLianGuaice_NFT, @TheBNNFT, @dropsnft. These protocols allow borrowers to instantly withdraw liquidity from existing pools, similar to how @AaveAave and @compoundfinance operate with fungible tokens.

Both models have their pros and cons:

P2P model is more suitable for non-mainstream/long-tail NFTs. However, loan matching takes time, loan terms are fixed, and lenders bear higher risks.

P2Pool model is more suitable for mainstream NFTs, offering instant liquidity and decentralized risks. However, interest rates/collateral ratios do not consider specific features and rely on oracles.

2. Improvements in the Current Market

New models are emerging to improve the existing P2P/P2Pool paradigm.

Blend (@blur_io) uses an order book to aggregate lenders’ quotes, improving liquidity and enabling efficient refinancing. @LianGuairaSLianGuaice_NFT offers rarity boosting, lowering the collateral ratio for higher-value NFTs.

@AstariaXYZ adopts a three-party system. Liquidity providers pool funds into an insurance vault and entrust strategists to manage the loan underwriting process.

@metastreetxyz uses layered lending. Borrowers can specify their own loan risk preferences. Risks are segmented, but liquidity is shared among borrowers.

3. The Future of NFT Lending

These protocols are all building critical NFT lending infrastructure components. However, there are still some major issues that need to be addressed, including:

  • Balancing the interests of borrowers and lenders

  • Managing positions easily

  • Improving protocol interoperability.

1) Balancing the interests of borrowers and lenders

Lenders should receive appropriate risk compensation while borrowers should receive reasonable loan terms. This is not easy to achieve in the volatile NFT market. Prices can quickly drop, leading to borrower liquidation and bad debts.

In addition, current lending protocols pay interest at maturity, which means that lenders’ risks increase over the loan term.

Therefore, current NFT loans have short terms and high interest rates, which add friction and costs to both sides of the market.

Implementing repayment plans, as seen in traditional finance, will help reduce lenders’ risks during the loan period.

The reduction in lender risk will be passed on to borrowers in the form of longer terms and lower interest rates.

2) Managing positions easily

Today, managing your NFT lending or borrowing positions requires full-time work. You need to constantly monitor prices and take quick action to avoid liquidation or holding collateral that is worthless.

This is a poor user experience for most people.

Telegram and email reminders are a good first step in helping people manage their loan positions.

More advanced features such as automatic repayments, liquidation insurance, and hedging tools can further enhance the user experience for lenders and borrowers.

3) Improving interoperability

To borrow against your NFT, you need to deposit it into a smart contract. Operationally, the utility associated with your NFT (airdrops, governance) also transfers along with it.

But in traditional collateralized loans, this is not the case. Even if your house is used as collateral, you can still continue to live in it!

Using your NFT as collateral should not mean that you have to stop using it!

We need to establish standards and build in a way that allows borrowers to still access the underlying utility of their NFTs when used for lending or other financial protocols.

4) Why should we care about this issue?

The lending market is a critical financial infrastructure for all major markets. They enhance market efficiency, promote growth, and expand market access.

Building the right lending mechanism ensures that the protocol can handle trillions of dollars in demand once the majority of assets are encoded as NFTs.

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