In the context of yield chasing, Pareto efficiency refers to the idea of maximizing the yield on a portfolio while balancing the volatility of the underlying assets. This means finding the optimal allocation of resources that will generate the greatest return on the investment, while minimizing the risk of losses due to fluctuations in the value of the assets.
By following a Pareto efficient approach, investors can maximize their returns while minimizing their exposure to risk, and ultimately make more informed decisions about how to allocate their resources.
Please note that the following figures and the accompanying analysis do not account for the tokenomics of the respective projects. The yield and volatility values shown are based solely on the staking mechanics of the individual cryptocurrencies and do not consider factors such as the supply, demand, or overall health of the projects. As such, this analysis should not be considered a comprehensive evaluation of the potential returns or risks associated with staking these cryptocurrencies. Investors should conduct their own research and carefully consider the tokenomics of each project before making any investment decisions.
The figures use the top-line yield numbers from Staking Rewards which I believe only tell part of the story, and volatility calculated as the 180-day standard deviation of the log returns of closing prices sourced from Coin Market Cap.
The figure below shows the relationship between the staking yield and volatility of various cryptocurrencies. The Pareto efficient frontier is a line that represents the maximum possible yield for a given level of volatility, or the minimum possible volatility for a given level of yield. Any point on or above the Pareto efficient frontier represents a portfolio of cryptocurrencies that is considered Pareto efficient, because it is not possible to improve the yield without increasing the volatility, or decrease the volatility without decreasing the yield. Points below the Pareto efficient frontier represent portfolios that are not Pareto efficient, because it is possible to improve the yield without increasing the volatility.
As those in the industry should expect, the nominal yields offered by some smaller protocols are extremely high. To get to the crux of the dynamic we need to adjust yields for staking participation and supply inflation.
After accounting for inflation we see yields collapse across the board. The only protocols that don’t suffer large drops in yield are Ethereum, Binance Token, and NEAR Protocol. All three of these networks have token burning mechanisms built into their market dynamics, largely offsetting staking issuance and making adjusted yield similar to their stated nominal yields.
In addition, this analysis was particularly cruel towards Ethereum’s statistics. The yield stated in the figures does not include MEV which could push the yield anywhere from 1-3% higher, and the period of which volatility was sampled included a giant run-up in Ethereum specific volatility as the cryptoasset transitioned from proof-of-work to proof-of-stake.
In conclusion, Ethereum has yet to prove its case to yield focused investors. Despite being the largest yield generating cryptoasset, its volatility remains high. Until the volatility of the token decreases, Ethereum only fits in as a piece, rather than the centerpiece, in yield-seeking portfolios. We have a long way to go before Ethereum becomes The Internet Bond.
This writing was highly experimental. Everything contained, other than the discussion of the figures, was generated by ChatGPT, including the source code for calculating the Pareto frontiers and generating the plots—some minimal stylistic personalization was also performed.
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