X2Y2 tests water lending, is the NFT platform war entering a new pattern?

Author: Crypto Enthusiast June

Since NFTs emerged in the crypto world, OpenSea has maintained its throne as the leading NFT trading platform. However, this monopoly has recently been shaken. With numerous competitors rising, OpenSea's market share is gradually being eroded. Dune data shows that OpenSea's recent daily trading volume has dropped to below 50% of the entire Ethereum NFT market.

A war between NFT platforms is unfolding, with newcomers adopting new strategies to challenge OpenSea. The recently launched Blur announced an airdrop plan, resulting in a surge in trading volume in a short period; LooksRare announced the default cancellation of creator royalties and plans to launch an NFT aggregator; x2y2, after the previous royalty controversy, has taken new actions by launching a zero-fee NFT lending service.

To defeat OpenSea, it won't be another OpenSea; only by taking a different path can one hope to win this war. Looking at the competitive strategies of various platforms, x2y2 is currently the boldest and most radical "rebel," taking the first step towards expanding the product portfolio of NFT platforms with its lending service, potentially providing new ideas for other market participants.

Lending: From DeFi to NFTFi

Lending is one of the oldest financial activities of humanity and still plays a crucial role in today's social life. Its basic principle is easy to understand: lenders provide a sum of idle funds to borrowers, who repay the principal along with a certain interest after the due date.

DeFi, which claims to revolutionize the traditional financial industry, naturally does not miss this model. As early as 2014, a collateralized lending platform called MakerDAO quietly emerged and launched on the Ethereum mainnet in 2017, marking the beginning of the DeFi era. MakerDAO plays the role of a central bank on Ethereum and is the issuer of the most prominent decentralized stablecoin DAI in the DeFi world. Users can borrow a certain proportion of DAI by collateralizing assets like Ethereum on the platform.

During the DeFi wave that surged in 2018, lending became the most important track outside of decentralized exchanges, with related projects emerging one after another, including well-known names like Compound and Aave. By 2021, during the NFT summer, DeFi found a new experimental field, which we refer to as NFTFi, using financial means to break through issues like pricing and liquidity inherent to NFTs.

The landscape of the NFTFi industry is roughly similar to that of DeFi, with trading and lending still being the two leading tracks. The basic principles of NFT lending are similar to those of DeFi lending, both involving the collateralization of assets on-chain through smart contracts, followed by borrowing other assets.

Peer-to-Peer vs. Pool-to-Pool

Although NFT lending is rooted in DeFi, the collateral assets behind the two are fundamentally different: the former uses NFT assets like CryptoPunks as collateral, while the latter uses fungible tokens like Ethereum. The value of one Ethereum is equal to another Ethereum, but the value of one CryptoPunks may be several times that of another CryptoPunks. NFT lending requires consideration of more complex use cases, leading to the emergence of two different lending models: peer-to-peer lending and pool-to-pool lending. Both models have prominent representatives.

Driven by the NFT Summer, many explorers have emerged in the NFT lending field, but the main lending business is still concentrated on a few platforms, with NFTfi, BendDAO, and the newly launched x2y2 occupying the vast majority of the market. Among them, NFTfi and x2y2 adopt the peer-to-peer lending model, while BendDAO uses the pool-to-pool model.

Weekly transaction volume in the NFT lending market, data source: Dune

The debate between peer-to-peer and pool-to-pool is a topic of endless interest in the NFT lending field, akin to the discussion of order books versus AMM in decentralized exchanges, making it difficult to reach a unified conclusion.

Peer-to-Peer Lending

Peer-to-peer is a mechanism for direct transactions between users, typically a highly customizable product. For each NFT listed on the platform, potential borrowers can set terms such as amount, duration, and annual interest rate. As long as both parties agree to the terms, the transaction can be completed.

X2Y2's NFT loan service is a peer-to-peer lending model. Users holding NFTs from whitelisted projects can borrow ETH by collateralizing their NFTs, thereby releasing liquidity from their NFT assets, while users can set differentiated pricing based on the rarity of their NFTs. The whitelisted projects currently supported by x2y2 include BAYC, Azuki, Doodles, Otherdeed for Otherside, and more.

The peer-to-peer model is typically suitable for illiquid or long-tail assets. For example, NFTfi supports lending for hundreds of NFT collections, but x2y2 initially chose a more cautious strategy, supporting only a few blue-chip NFT loans.

Lenders in peer-to-peer lending usually fall into two categories: 1. earning interest; 2. acquiring NFT assets at a low price. The first is easy to understand: lending money to others to earn interest income. For instance, most staking rates on NFTfi are set above 40% annually, which is enough to attract many DeFi players. In the second scenario, lenders may set lower annual interest rates (10%-40%) to attract borrowers, and in the event of borrower default, lenders can acquire the collateralized NFT assets at a low price, which is essentially a cross-option strategy.

Peer-to-peer lending facilitates the release of NFT liquidity, especially for low liquidity and long-tail assets, but its drawbacks are also evident, with low capital and time efficiency. To address this issue, the pool-to-pool lending model has emerged.

Pool-to-Pool Lending

The pool-to-pool model allows borrowers to borrow from a pool of funds, while lenders deposit funds into the pool in advance to earn returns. The pool-to-pool model typically only supports blue-chip NFT assets. Compared to peer-to-peer, the pool-to-pool model reduces the order matching process, theoretically improving transaction time efficiency. Additionally, the pool-to-pool model is more borrower-friendly, as it diversifies risk through the fund pool and lowers the entry threshold.

However, the pool-to-pool model also faces the issue of low capital efficiency. Collateral pools often hold idle funds, and interest income only comes from borrowers on the platform. Furthermore, the pool-to-pool model is susceptible to cascading liquidation risks, as demonstrated by BendDAO's liquidity crisis. Additionally, while the pool-to-pool model only supports blue-chip NFTs, holders of high-value rare NFTs are more likely to choose the peer-to-peer model, as the latter typically allows for borrowing more assets.

Both peer-to-peer and pool-to-pool have their pros and cons. From a data performance perspective, the peer-to-peer model is superior, with NFTfi's lending volume consistently ranking at the top, while the recently launched x2y2 closely follows BendDAO. However, the long-term development landscape of the lending market remains unpredictable.

So far, our perspective has focused on the separate direction of NFT lending, and x2y2 has already established a foothold. As mentioned earlier, trading and lending, whether in DeFi or NFTFi, are both advancing side by side. So, what kind of chemical reaction would occur if a platform combines the two?

Composable Innovation: Trading + Lending

This combination of business models is not uncommon in the internet world; in fact, the history of internet development over the past few decades is a history of business expansion by a few giant companies. In the Web3 world, decentralization as a first principle is at play, with different business models being combined in new ways: we call this composability.

What is composability? a16z partner Chris Dixon defines it as "the ability to assemble and combine software components like building with Lego blocks."

Composability means that software can be built on top of other software, and each new protocol or NFT can be combined with others like Lego blocks.

X2Y2's action of combining trading and lending on the same platform is an example of composability. For developers, composability avoids reinventing the wheel and greatly improves engineering efficiency, similar to the construction of all historical open-source products. A more thought-provoking question is, what does it mean for ordinary users?

Imagine a scenario: a loyal holder of CryptoPunks sees short-term potential in Art Gobblers. He wants to buy an Art Gobblers but has limited liquid funds. He can choose to collateralize his CryptoPunks on NFTfi to borrow ETH and then go to OpenSea to purchase Art Gobblers. Once Art Gobblers appreciates, the user can sell it on OpenSea for profit and then return to NFTfi to repay the loan and redeem the collateral. This entire process requires switching back and forth between two platforms, and the wallet needs to authorize multiple platforms. However, if using x2y2, this need can be fully met on one platform. Considering more complex scenarios, the threshold and cost of user interactions across different protocols would be even higher.

X2Y2's composite product offers two obvious advantages for users who have both lending and trading NFT needs: 1. Reduced processes, lowering the operational threshold; 2. Reduced authorizations, enhancing security. In the dark forest of blockchain, complex operations and authorizations often expose more risks. Within just one month of its launch, x2y2 has squeezed into the top three positions in the NFT lending market, and user choices have already demonstrated the experiential advantages brought by composability.

The Future of the NFT Market: An Open Home Based on Composability

Chris Dixon also stated, "The importance of composability for software building is akin to that of compound interest for finance." Composability drives continuous product innovation, allowing newcomers to directly reference modules provided by predecessors and add or combine functions based on them to achieve product innovation. This also implies that the era where technology serves as a product moat may be coming to an end. So, what will the new moat be?

Can accumulating users to seize the market become a moat? OpenSea's recent market decline indicates that first-mover advantages are also difficult to form a solid moat. Rather than pursuing the construction of a moat to block competitors, it is better to follow this rapidly changing early industry to continuously adapt and innovate.

In the new land of NFTs, pioneering players have established the earliest gathering places for digital nomads, but there is still an infinitely vast expanse. With its combination strategy of trading + lending, x2y2 demonstrates the potential for exploring new territories. It is foreseeable that the future NFT platform wars will revolve around composability innovation, expanding into new fields. More platforms will combine more businesses, such as lending, fragmentation, and derivatives for composable innovation; x2y2 has only taken the first small step.

Internet giants have built flourishing walled gardens around composability, and adventurers in the Web3 world will also rely on composability to carve out new territories. The difference is that it has no walls; it is an open home.