Original Title: Why fixed-rate lending never took off on-chain
Original Author: @nicoypei, Crypto Content Creator
Original Translation: AididiaoJ, Foresight News
The demand for fixed rates mainly comes from institutional borrowers and users of cyclical strategies. The scale of on-chain credit will expand in the future, but at this stage, most on-chain participants highly value the flexibility of "being able to withdraw funds at any time." Therefore, rather than having lenders accept "term locks," a better approach is to build a layer for interest rate swaps on top of existing money markets (like Aave) to meet the demand for fixed-rate lending.
Insights from Traditional Finance: The Fixed-Rate Market Originates from Borrower Demand
In the private debt market, the prevalence of fixed rates stems from the need for certainty from borrowers, not because lenders prefer it.
Borrower Perspective (corporations, private equity funds, real estate developers, etc.): Their primary concern is predictable cash flow. Fixed rates can avoid the risk of rising benchmark rates, simplify budgeting, and reduce refinancing risks. This is especially important for highly leveraged or long-term projects, where interest rate fluctuations can directly threaten their survival.
Lender Perspective: They generally prefer floating rates. Loan pricing is typically "benchmark rate + credit risk premium." A floating structure can protect profit margins when rates rise, reduce "duration risk," and provide additional income when benchmark rates increase. Lenders will only offer fixed rates if they can hedge interest rate risk or charge a sufficient premium.
Thus, fixed-rate products are a response to borrower demand rather than the default state of the market. An important insight for DeFi is that without a clear and sustained demand from borrowers for "interest rate certainty," fixed-rate lending will struggle to gain liquidity, scale, or sustain development.
Who are the Borrowers on Aave / Morpho & Euler? Why are They Borrowing?
A common misconception is: "Traders borrow money from money markets to leverage or short."
In reality, directional leverage operations are almost entirely completed through perpetual contracts due to higher capital efficiency. Money markets require over-collateralization, making them unsuitable for speculative leverage.
However, Aave alone has about $8 billion in stablecoin loans. Who are these borrowers?
They can be broadly divided into two categories:
Long-term holders / whales / project treasuries: They collateralize their crypto assets (like ETH) to borrow stablecoins for liquidity while avoiding selling assets (thus retaining upside potential and avoiding taxable events).
Yield cyclers: They borrow to recursively leverage yield-bearing assets (like liquid staking tokens LST/LRT, such as stETH; or yield-bearing stablecoins, like sUSDe). The goal is to achieve a higher net yield rather than speculate on price fluctuations.
So, is there a demand for fixed rates on-chain?
Yes. The demand mainly comes from two types of users: institutional crypto collateral loans and cyclical strategies.
1. Institutional Crypto Collateral Loans Require Fixed Rates
Take Maple Finance as an example; it lends stablecoins to institutions through over-collateralized loans, with collateral primarily being blue-chip crypto assets like BTC and ETH. Borrowers include high-net-worth individuals, family offices, hedge funds, etc., who seek cost-predictable fixed-rate funding.
Rate Comparison: The cost of borrowing USDC on Aave is about 3.5% annually, while the fixed-rate loans on Maple for similar collateral yield between 5.3% and 8%. This means that switching from a floating rate to a fixed rate requires borrowers to pay an additional premium of about 180-450 basis points.
Market Size: Maple's Syrup fund pool alone manages about $2.67 billion, comparable to Aave's approximately $3.75 billion in outstanding loans on the Ethereum mainnet.
(Aave's ~3.5% compared to Maple's ~8%, paying a premium of about 180-400 basis points for fixed-rate crypto loans.)
It should be noted that some borrowers choose Maple to avoid (early DeFi) smart contract risks. However, as the security, transparency, and liquidation mechanisms of protocols like Aave have been tested, this perception of risk is diminishing. If reliable fixed-rate options emerge on-chain, the premium for off-chain fixed-rate loans is likely to be compressed.
2. Cyclical Strategies Require Fixed Rates
Despite cyclical strategies generating billions in funding demand, the volatility of borrowing rates often makes this strategy unprofitable.
A stablecoin cyclical lending user stated: "As a cycler/borrower, the borrowing rate is unpredictable, and rate fluctuations can suddenly wipe out several months of accumulated earnings, leading to position losses."
Historical data also shows that borrowing rates on Aave and Morpho are extremely unstable, with annual volatility exceeding 20%.
For cyclers, they earn fixed returns (e.g., through Pendle's PT), but maintaining the cycle with floating-rate borrowing introduces "interest rate risk." If borrowing rates spike, it can consume all profits. If both the borrowing rate and investment return are fixed, then funding risk is eliminated. The strategy becomes easier to evaluate, positions can be held with peace of mind, and capital can be deployed more efficiently.
As on-chain infrastructure (like Pendle's PT) has undergone over five years of security testing, the demand for on-chain fixed-rate loans is rapidly growing.
Since there is demand, why hasn't the market scaled? Let's look at the supply-side issues.
Flexibility is the "Priceless Treasure" of On-Chain Participants
Here, flexibility refers to the ability to adjust or exit positions at any time without a lock-up period—lenders can withdraw funds at any time, and borrowers can repay or redeem collateral without penalties.
In contrast, Pendle PT holders sacrifice some flexibility. Even in the largest fund pools, Pendle's mechanism cannot allow positions exceeding about $1 million to exit instantly without significant slippage.
So, how much compensation do on-chain lenders receive for giving up flexibility? Taking Pendle PT as an example, compensation can often exceed 10% annually, and during the frenzy of YT point trading (like usdai on Arbitrum), it can even exceed 30%.
Clearly, true borrowers (not speculators) cannot afford a fixed-rate cost of 10%. This high rate is essentially a "premium" paid for giving up flexibility, which is unsustainable without speculation on YT points.
While PTs carry higher risks than foundational lending protocols like Aave (increasing the risks of the protocol itself and the underlying assets), the core conclusion remains unchanged: any fixed-rate market that requires lenders to give up flexibility cannot scale if borrowers cannot afford the high rates.
Term Finance and TermMax are examples: few lenders are willing to give up flexibility for a meager interest rate, and borrowers certainly do not want to pay 10% to lock in a rate when Aave's rate is 4%.
The Solution: Don’t Let Fixed-Rate Borrowers Directly Match Fixed-Rate Lenders
Fixed-rate borrowers should match with rate traders. Specifically:
Step 1: Protect the Lender Experience
The vast majority of on-chain capital only trusts the security of Aave, Morpho, and Euler, and they prefer the simple passive experience of "depositing money and earning" on Aave. They are not the "seasoned managers" who evaluate every new protocol in detail for a 50-100 basis point premium.
Therefore, for the fixed-rate market to scale, the lender experience must be identical to what it is now when using Aave:
- Deposit money at any time
- Withdraw money at any time
- Almost no new trust assumptions required
- No lock-up period
Ideally, fixed-rate protocols should be built directly on top of trusted money markets like Aave, leveraging their security and liquidity.
Step 2: Trade the "Spread," Not the "Principal"
For borrowers wanting fixed rates, they do not need another full loan with a lock-up period. What they truly need is capital willing to bear the risk of the "agreed fixed rate" versus the "Aave floating rate," while the remaining principal can still be borrowed from Aave and other sources.
In other words, what traders are trading is the expected difference between fixed and floating rates, not the entire principal of the loan.
An interest rate swap layer can achieve this:
- Hedgers can exchange fixed payments for floating income that perfectly matches Aave's floating rate.
- Macro traders can express their views on interest rate trends with extremely high capital efficiency.
Example of Capital Efficiency: A trader only needs to post a small margin to take on interest rate risk exposure, far below the nominal principal of the loan. For example, to short the Aave borrowing rate for $10 million with a 1-month term, assuming a fixed rate of 4% annually, the trader might only need to put up about $33,300 in margin—implying a capital efficiency of 300 times.
Considering that Aave rates often fluctuate between 3.5% and 6.5%, this implied leverage allows traders to treat the interest rate itself as a highly volatile "token" to trade (from $3.5 to $6.5), with fluctuations far exceeding mainstream cryptocurrencies, and closely correlated with overall market liquidity and prices, while avoiding the risk of liquidation associated with using explicit leverage (like 40x on BTC).
Going long on rates earns from "peaks," while going short on rates earns from "troughs."
Long-Term Outlook: Fixed Rates are Essential for On-Chain Credit Expansion
I foresee that as on-chain credit grows, the demand for fixed-rate loans will also expand. Borrowers will increasingly need predictable financing costs to support larger-scale, longer-term positions and productive capital allocation.
Institutional Credit Expansion: Projects like Cap Protocol are driving on-chain institutional credit. They help re-staking protocols provide insurance for institutional-grade stablecoin loans. Currently, rates are determined by utilization curves applicable to short-term liquidity, but institutional borrowers value rate certainty. In the future, a dedicated interest rate swap layer will be crucial for supporting "term pricing" and risk transfer.
On-Chain Consumer Credit: Projects like 3Jane focus on on-chain consumer credit. This field is almost entirely composed of fixed-rate loans because consumers need certainty.
In the future, borrowers may enter different segmented interest rate markets based on credit ratings or types of collateral assets. Unlike traditional finance, on-chain interest rate markets may allow borrower groups to face market-driven rates directly, rather than being locked into rates set by a single lender.
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