Aave: The Core Pillar of Decentralized Finance and on-chain Economy

On-chain lending is one of the most important markets in the cryptocurrency industry, and Aave, as the leader in this market, has strong competitive barriers and user stickiness. The market still seems to have not fully recognized Aave's value and potential.

In January 2020, Aave launched on the Ethereum mainnet, and it is now in its fifth year. Currently, Aave is the largest lending protocol, with a total active loan amount of $7.5 billion, which is five times that of the second place.

The protocol metrics continue to grow, surpassing the previous cycle peak.

Aave is one of the few DeFi protocols that have surpassed the levels seen during the 2021 bull market. Its quarterly revenue has exceeded the peak of the bull market in Q4 2021. Even during the market consolidation period from November 2022 to October 2023, Aave's revenue continued to accelerate. As the market warms up in the first and second quarters of 2024, Aave's momentum remains strong, with a month-over-month growth rate of 50-60%.

Since the beginning of the year, thanks to increased deposits and the rise in prices of underlying assets such as WBTC and ETH, Aave's TVL (Total Value Locked) has nearly doubled, recovering to 51% of the peak value in the 2021 cycle. This indicates that Aave is more resilient compared to other leading Decentralized Finance protocols.

Strong profit performance reflects a high alignment between the product and the market.

Aave's revenue peaked in the last cycle, coinciding with multiple smart contract platforms issuing large amounts of token incentives to attract users and liquidity. This brought unsustainable speculative capital and leverage levels, amplifying the revenue figures of most protocols.

Currently, the token incentives of the main chain have been depleted, and Aave's own token incentives have also dropped to a negligible level. This indicates that the metric growth over the past few months is organic and sustainable, driven primarily by a rebound in market speculation activities, which has pushed up active lending and borrowing rates.

Even during periods of reduced speculation, Aave has demonstrated the ability to drive fundamental growth. Despite the significant drop in the global risk asset market in early August, Aave's revenue remained robust, thanks to its successful collection of liquidation fees during the loan repayment process. This proves that Aave has the capability to withstand market fluctuations in different collateral and multi-chain environments.

Although the fundamentals are strongly recovering, Aave's price-to-sales ratio is still at its lowest level in three years.

Despite a strong recovery in indicators over the past few months, Aave's price-to-sales ratio is only 17 times, at its lowest level in three years, significantly below the median level of 62 times during the same period.

Aave is expected to strengthen its dominance in the Decentralized Finance lending space.

Aave's competitive advantages are mainly reflected in four points:

1. The protocol security management records are good: To date, Aave has not experienced a major smart contract-level security incident.
2. Bilateral network effects: DeFi lending is a typical bilateral market, with depositors and borrowers forming the supply and demand sides.
3. Well-managed DAO: The Aave protocol has fully implemented a DAO-based governance model.
4. Multi-chain ecosystem positioning: Aave has been deployed on almost all mainstream EVM L1/L2, and its TVL remains leading on all deployed chains except for BNB Chain.

Reform token economics, promote value accumulation, eliminate reduction risks

The Aave Chan Initiative (ACI) has recently launched a proposal aimed at reforming the AAVE token economics, introducing a revenue-sharing mechanism to enhance token utility. The main changes include:

1. Eliminate the risk of AAVE being reduced when adjusting the security module.
2. Introduce the Anti-GHO token to enhance the alignment of interests between AAVE stakers and GHO borrowers.
3. Implement a destruction and distribution plan that allows the net surplus protocol revenue to be redistributed to token stakers.

In addition, the circulation of AAVE is almost at a fully diluted state, and there will not be any large-scale supply unlocks in the future.

Aave is expected to achieve significant growth

Aave has multiple growth drivers going forward:

1. Aave v4: Will enhance its competitiveness, streamline cross-chain lending processes, and expand to more chains and asset classes.
2. The growth of BTC and ETH as asset classes is positively correlated: The launch of ETFs is expected to attract significant capital inflow into the digital asset market.
3. Tied to stablecoin supply: The global central bank rate-cutting cycle may stimulate capital to shift from traditional finance to stablecoin farming in the Decentralized Finance sector.

Summary

Aave, as a leader in the decentralized lending space, has a bright future ahead. Its strong network effects, excellent token liquidity, and composability will continue to solidify and expand its market dominance. The upcoming token economics upgrade will further enhance the protocol's security and improve its value capture capabilities.

Currently, Aave's valuation is mismatched with its fundamentals, providing investors with an excellent risk-adjusted investment opportunity. As the market gradually recognizes Aave's value, this mismatch is expected to be corrected.