Basis Trading Yield
Lemma's basis trading vault's yield comes from the funding rate payments generated by the short position backing USDL, the Lemma stablecoin.

Why do funding rates exist?

A perpetual contract’s funding rate serves a dual purpose on most derivative exchanges:
  • to keep the price of the perpetual contract in line with the underlying spot asset’s price
  • to account for differences in interest rates between the perpetual contract and the underlying spot asset
When a funding rate is positive, long traders will have to pay a small fee to short traders and vice versa when it is negative.

Why are funding rates usually positive?

Historically, funding rates over the past 5 years have been overwhelmingly positive. There are several factors that contribute to this phenomenon, but two that are relevant to derivatives dexes are:
  • There are generally more long traders in crypto than short traders.
  • Cryptocurrencies (such BTC, ETH etc.) are much cheaper to borrow than USD based stablecoins. For example: going long on a cryptocurrency such as ETH is equivalent to borrowing USD (to buy ETH), and going short on ETH is equivalent to borrowing ETH (to sell ETH). Therefore, all other things being equal, going long on ETH should cost more than going short.
The chart below shows the 8 hour funding rates for the BTC inverse perpetual contract on Bitmex from January 1st, 2018 to May 20th, 2021; the mean is ~0.00055%.

Where does Lemma's yield come from?

Since Lemma's stablecoin, USDL, is backed by a short position on derivatives exchanges, as long as the factors mentioned above remain true, it will generate yield from funding payments.
This "trading strategy" of having a market neutral position while generating yield on positive funding payments is more commonly known as “basis trading” or “cash and carry”.
You can see the returns produced from shorting a Bitcoin inverse perpetual contract from January 1st, 2018 to May 20th, 2021 vs. simply holding Bitcoin over the same time period in the chart below: