Practical Use Cases of dlcBTC in DeFi

dlcBTC is a safer wrapped Bitcoin (BTC) on Arbitrum network, minted out of self-custody. It leverages Discreet Log Contracts (DLCs) to ensure only depositors can access locked BTC, eliminating third-party custody risks. Moreover, with dlcBTC, the DLC lockbox only pays out to the depositor. This mechanism ensures that only the depositor receives the BTC deposit in case of a security breach. 

This article presents the boundless use cases of dlcBTC in decentralized finance (DeFi) protocols, namely: borrowing and lending, liquidity mining, and covered calls. 

DeFi Use Cases of dlcBTC

1. Using dlcBTC as Collateral in DeFi Lending Protocols

DeFi lending protocols are blockchain-based platforms that facilitate peer-to-peer lending of digital assets without intermediaries like in centralized finance (CeFi) lending. These protocols automate and secure the lending processes through smart contracts on blockchain networks. Users can supply dlcBTC to borrow stablecoins, such as USDT and USDC, which can then be reinvested.

Borrowers lock dlcBTC in smart contracts, enabling them to borrow a specified percentage of the collateral's value. All DeFi lending protocols will require borrowers to lock up excess dlcBTC than the loan they apply (over-collateralization). The extra collateral acts as a buffer in price volatility, providing more security to the lenders. 

Interest rates, determined algorithmically, vary based on supply and demand dynamics. Lenders receive interest payments, and borrowers reclaim their dlcBTC upon loan repayment. Notable DeFi lending protocols include Compound, Aave, Ajna, and MakerDAO. They provide open, transparent, and permissionless access to financial services, democratizing lending and borrowing in a trustless manner on the blockchain.

2. Using dlcBTC in Liquidity Mining

Liquidity mining, sometimes called yield farming, is a DeFi practice involving users providing liquidity to a decentralized platform in exchange for rewards. Participants commit their assets to liquidity pools, typically pairs of tokens, facilitating trading or lending activities on the protocol.

In liquidity mining, users are incentivized with additional tokens as a reward for supplying liquidity to these pools. The rewards often come from the platform's native governance tokens or other utility tokens. The distribution of rewards is usually proportionate to the amount of liquidity a participant provides, encouraging greater contributions to enhance the liquidity and functionality of the decentralized platform.

Liquidity mining serves multiple purposes. Importantly, it helps bootstrap liquidity for new projects, making trading more efficient, and encourages user engagement by offering an opportunity to earn additional tokens. dlcBTC holders can mine liquidity by converting their holdings to USDT, USDC, or any other accepted token.

Furthermore, liquidity mining is essential in Automated Market Makers (AMMs) such as Curve, which specialize in stablecoin trading. Curve pools leverage liquidity provided by users to facilitate seamless and low-slippage trades between stablecoins. By participating in these pools, dlcBTC holders contribute to the efficiency of stablecoin swaps and earn rewards in the form of trading fees and additional governance tokens. This synergy between liquidity mining and AMMs like Curve enhances the overall liquidity landscape, fostering a robust and active decentralized financial ecosystem.

Note: Liquidity providers should consider risks such as impermanent loss and market volatility associated with liquidity mining. 

3. Using dlcBTC in Covered Calls

Generating passive income through covered calls involves selling call options on assets that one already owns, in this case, dlcBTC. The strategy allows dlcBTC holders to earn a 36% annual percentage yield (APY) with STS Digital Ltd, providing a potential income stream while still participating in the broader cryptocurrency market. This is how covered calls function:

Holding dlcBTC: The first step involves owning dlcBTC, which is the underlying asset for the covered call strategy. Investors committed to holding dlcBTC for the long term find this approach appealing,enabling them to generate returns on their holdings without selling them.

Selling Call Options: The dlcBTC holder then sells call options on their dlcBTC holdings. These options give the buyer the right, but not the obligation, to purchase dlcBTC at a predetermined price (strike price) by a specific date (expiration date). In return for selling this option, the dlcBTC holder receives a premium from the option buyer. This premium is the immediate income generated from the covered call strategy.

Repeating the Process: Whether the option is exercised or not, the dlcBTC holder can continue to employ this strategy by selling new call options and continuously generating income through premiums.

The Advantages of Using dlcBTC in DeFi Protocols

Utilizing dlcBTC for borrowing, lending, staking, or margin trading in DeFi offers distinct advantages, setting it apart from traditional wrapped Bitcoin solutions:

User Sovereignty and Eliminating Intermediaries

Unlike typical wrapped Bitcoin variants, like wBTC, dlcBTC empowers users by eliminating intermediaries through a self-wrapping mechanism. Through self-wrapping in a secure lockbox, dlcBTC ensures user sovereignty and adheres to the principle of "Not Your Keys; Not Your Coins." This approach empowers users with direct control over their assets without relying on third-party custodians, often prone to censorship, fund mismanagement, and human errors.

Enhanced Security with DLC Lockbox

The unique feature of the DLC lockbox in dlcBTC wrapping adds an extra layer of security. In the unfortunate event of a hack, only the depositor, the rightful owner, receives the BTC deposit. This design significantly reduces the impact of potential security threats and losses, reinforcing the robustness of the DeFi ecosystem and ensuring that individual depositors' assets remain safeguarded.

Bitcoin-Level Security without Custodial Risks

dlcBTC is secured by the full hashrate of the Bitcoin blockchain. Importantly, it doesn't require depositors to lock or send their BTC to external custodial addresses. This distinctive approach ensures users enjoy the same level of security as Bitcoin while eliminating the risks associated with third-party custodianship, such as collateral mismanagement.

Capital Gains Tax Efficiency 

Self-wrapping BTC to mint dlcBTC for use in DeFi lending protocols presents a strategic advantage for users looking to avoid capital gains taxes. Selling BTC to buy an Ethereum-compatible asset for DeFi participation triggers immediate tax liabilities in the US, for example. By using BTC as collateral to mint dlcBTC instead of selling, users can access liquidity without incurring capital gains tax, allowing them to manage their financial positions more efficiently within the evolving regulatory landscape.

Conclusion

In conclusion, the use of dlcBTC in DeFi lending protocols introduces a new paradigm of efficiency and security compared to other wrapped Bitcoin versions. By combining the principles of user sovereignty, enhanced security features like the DLC lockbox, and Bitcoin-level security without custodial risks, dlcBTC stands out as a robust choice for users navigating the DeFi landscape. Moreover, its tax-efficient approach, allowing users to access liquidity without triggering immediate capital gains taxes, brings an extra strategic advantage to BTC holders interested in DeFi lending and borrowing.