Evegny Gokhberg: Market neutral DeFi strategies are essential for volatility, why diversification isn’t enough to manage risks, and the future of capital in DeFi

Key Takeaways

• Market-neutral DeFi return strategies aim to generate returns without being influenced by price direction.
• Building a business on a market-neutral basis is critical due to crypto’s inherent volatility.
• In the early days of DeFi, stablecoins could deliver significantly high returns.
• The unique risk-reward profile in crypto is based on hacks of software platforms, which are not correlated with traditional assets.
• Diversification in DeFi is insufficient on its own to effectively manage risk.
• DeFi risk is likened to selling a put option, earning returns until a catastrophic event occurs.
• A framework can categorize blockchain attack vectors to assess risk and diversify investments.
• DeFi’s annual default rate has dropped from double digits to 2-5%.
• Engaging with DeFi platforms requires understanding the main risk of loss from hacks.
• Despite new platforms, the DeFi market remains structurally devoid of capital.
• The supply and demand dynamics in DeFi will continue to favor allocators.
• The returns of on-chain trading strategies vary significantly depending on market conditions.
• Diversification is critical in managing risk in on-chain trading strategies.
• It is preferable to retain assets if they remain structurally sound and communication with the team is good.
• The philosophy of diversification is crucial in the uncertain DeFi landscape.

Guest intro

Evgeny Gokhberg is the founder and managing partner of Re7 Capital, a DeFi hedge fund specializing in market-neutral return strategies and on-chain risk management. He previously worked in investment management at UBS and Deutsche Bank, where he managed long/short equity portfolios, before switching to crypto at Everledger in 2018. Re7 Capital has deployed approximately $1.2 billion in DeFi liquidity since its founding in 2021.

Market-neutral DeFi strategies

• Market neutral strategies aim to achieve returns without impacting the price direction.

• Think of it as a hedge fund that collects dollars, converts them into stablecoins and generates returns

  – Evegny Gokhberg

• Building a business on a market-neutral basis is essential due to the volatility of cryptocurrencies.

• It was scary to base a business on something extremely volatile

  – Evegny Gokhberg

• Early DeFi days provided high stablecoin returns.

• You can earn 40% per year from stablecoins in simple ways

  – Evegny Gokhberg

• The unique risk-reward profile in crypto is based on uncorrelated software platform hacks.

• Our risk is that any software platform will be hacked, without any correlation to stocks or bonds

  – Evegny Gokhberg

• Diversification in DeFi is not enough to effectively manage risk.

• Diversification always sells, but it’s not enough

  – Evegny Gokhberg

Risk management in DeFi

• DeFi risk is akin to selling a put option, earning returns until a catastrophic event occurs.

• It’s like selling a put option; you get paid until your counterparty goes bankrupt

  – Evegny Gokhberg

• A framework can categorize blockchain attack vectors for risk assessment.

• Can we categorize all blockchain attack vectors and create a checklist?

  – Evegny Gokhberg

• DeFi’s annual default rate has dropped significantly.

• The standard percentages were double digits, now maybe 2-5%

  – Evegny Gokhberg

• Understanding the risk of loss from hacks is key to interacting with DeFi platforms.

• We accept that money will be lost if a DeFi platform is hacked

  – Evegny Gokhberg

• The DeFi market is structurally facing a shortage of capital.

• DeFi TVL has not grown since 2021; people are starved of capital

  – Evegny Gokhberg

Supply and demand in DeFi

• The supply and demand dynamics in DeFi favor allocators.

• Supply demand will favor allocators for the foreseeable future

  – Evegny Gokhberg

• The cyclicality of returns in DeFi impacts performance more than capital demand.

• Cyclicity has more influence on the profit and loss account than the variance in demand

  – Evegny Gokhberg

• Multiple layers of risk exist when holding crypto assets.

• We take three layers of risk: assets, platform and chain

  – Evegny Gokhberg

• Convergence of CeFi, DeFi and TradFi is expected over time.

• We see a convergence of CeFi, DeFi and TradFi

  – Evegny Gokhberg

Trading strategies on the chain

• The returns of on-chain trading strategies vary depending on market conditions.

• In bull markets, returns can be 25-30%; in bear markets 5-10%

  – Evegny Gokhberg

• Diversification is crucial for managing risk in on-chain trading strategies.

• Sufficient diversification prevents the impact of individual events

  – Evegny Gokhberg

• The philosophy of diversification is crucial in the DeFi landscape.

• DeFi is six years old; we need to diversify

  – Evegny Gokhberg

• The company aims to remain stable this year despite the volatility.

• We want to at least stay flat this year, no matter what happens

  – Evegny Gokhberg

Bitcoin and altcoins

• Bitcoin is seen as digital gold; other crypto are software companies.

• Bitcoin stands alone as digital gold; others are software companies

  – Evegny Gokhberg

• Altcoins are undergoing a cleansing process and most are expected to lose value.

• 99.9% of altcoins should be worth zero

  – Evegny Gokhberg

• The crypto market resembles early Silicon Valley startups.

• Imagine if every Silicon Valley startup were to list on the stock exchange on day one

  – Evegny Gokhberg

• In crypto, a dual approach of top-down and bottom-up analysis is needed.

• We start top-down and merge it bottom-up

  – Evegny Gokhberg

Investment strategies in crypto

• Investing in crypto requires a balance between established companies and speculative bets.

• Balance concentrated risk with measurable, understandable assets

  – Evegny Gokhberg

• In an unforgiving market, patience is better than frequent trading.

• In this market it is better to be patient and trade infrequently

  – Evegny Gokhberg

• It is preferable to retain assets if they remain structurally sound.

• We will continue to hold if the assets are structurally sound and communication is strong

  – Evegny Gokhberg

• The latter part of the market cycle is crucial for altcoins’ profits.

• You need the last part of the cycle to get going

  – Evegny Gokhberg

Market dynamics and liquidity

• Investors should approach trading with a clear understanding of the risks.

• Be clear about your expected risk and avoid overtrading

  – Evegny Gokhberg

• Compounding profits in crypto is more effective by holding assets.

• The way to increase profits is to do nothing

  – Evegny Gokhberg

• FOMO is a major destroyer of returns in the market.

• FOMO is one of the biggest destroyers of returns

  – Evegny Gokhberg

• The current market volatility may be related to liquidity issues.

• I think it’s liquidity related, but who knows?

  – Evegny Gokhberg

Market forecasts and opportunities

• There is hope for a positive market move if critical levels are maintained.

• As long as we maintain these levels, there is hope for positive movement

  – Evegny Gokhberg

• The market shows stability and outperformance of altcoins compared to Bitcoin.

• Alts don’t break against BTC; there is stability

  – Evegny Gokhberg

• Today’s market looks like small caps versus large stocks.

• It’s like small caps versus majors in traditional markets

  – Evegny Gokhberg

• Investors should not panic about selling during market downturns.

• Don’t panic, sell; it’s probably the opposite

  – Evegny Gokhberg

Untie the connection between fundamentals and price

• There is a significant gap between DeFi fundamentals and price performance.

• There is a gap between fundamentals and price in DeFi

  – Evegny Gokhberg

• Liquidity is a dominant factor influencing market narratives.

• Liquidity influences market narratives and price movements

  – Evegny Gokhberg

• Lack of liquidity causes underperformance in software and crypto assets.

• There is not enough money available to maintain performance

  – Evegny Gokhberg

• The rise of gold is drawing attention away from fringe assets like SaaS stocks and Bitcoin.

• The rise of gold attracts capital, which impacts marginal assets

  – Evegny Gokhberg

Banking system and leverage

• The banking system can create significant leverage through regulatory changes.

• Regulatory changes could lead to significant bank leverage

  – Evegny Gokhberg

• Redeploying debt into the banking system will increase liquidity and impact the business cycle.

• Re-leveraging banks will recycle capital through the system

  – Evegny Gokhberg

• Current market conditions indicate a lack of sufficient liquidity.

• The market shows insufficient liquidity, which affects performance

  – Evegny Gokhberg

• Gold spikes often precede Bitcoin performance, signaling potential market shifts.

• Gold Peaks, Then Bitcoin Performs; signals are close

  – Evegny Gokhberg

Risk tolerance and investment decisions

• Risk tolerance is crucial for investment decisions, especially in volatile markets.

• Risk tolerance starts with understanding the disadvantages

  – Evegny Gokhberg

• Investors should consider a benchmark like this $ETH to manage risks.

• Use a benchmark such as $ETH to manage risks effectively

  – Evegny Gokhberg

• Higher beta assets experience larger withdrawals compared to major cryptocurrencies.

• Higher beta assets have larger drawdowns than major cryptocurrencies

  – Evegny Gokhberg

• Investors must be realistic about their risk tolerance and potential losses.

• Ask yourself if you are willing to bear potential losses

  – Evegny Gokhberg

Market corrections and opportunities

• The current market correction does not indicate that the entire crypto market is broken.

• The market is looking like a sharp correction within a bull market

  – Evegny Gokhberg

• The market may change quickly, but a long-term downturn is not imminent.

• A long-term recession does not appear imminent at the moment

  – Evegny Gokhberg

• Current market conditions should be seen as an opportunity, not a signal to give up.

• This is an opportunity, not a sign to leave the sector

  – Evegny Gokhberg

• The market noise will ultimately be just that: noise.

• The noise in the markets will be just that: noise

  – Evegny Gokhberg