What is Peapods Finance?

Peapods is a decentralized, permissionless, and trustless on-chain index investing and volatility farming protocol. Peapods permits the creation of fully customizable index tokens called “pods” which can be created with any ERC20 token and enables users to capitalize on the inexhaustible volatility of crypto markets, unlocking yield opportunities for any liquid asset.

Protocol Dynamics

Part of our Peapods investment thesis is predicated on their protocol design, so we think it’s important to give an in-depth explanation of the different protocol mechanisms prior to explaining the rest of the thesis.

PEAS Token

The protocol’s native token is PEAS. There is a total supply of 10 million tokens, all of which have been minted. The Peas team owns 12% of supply and is fully vested. Peapods had no venture investors or seed capital but compensated themselves via their portion of total token supply. The remaining tokens were allocated to liquidity.

PEAS does not offer any governance rights but staking a wrapped version of PEAS entitles holders to protocol revenue share.

Pods

Peapods enables users to create “pods” which are token wrappers for different combinations of ERC20 tokens. Pods are permissionless, allowing anyone to create their own pods.

Pods offer a unique way of investing so users can passively pick a sector or theme without having to do in-depth analysis on multiple tokens. For example, a pod could be created with a collection of L2 tokens or a basket of meme tokens. Many investors like to gain exposure to a sector instead of trying to pick the winners and losers of the group.

Pods have a fixed ratio of underlying assets and are redeemable for the underlying assets at a 1:1 ratio. The single-sided pod for the PEAS token charges a 1.5% wrap fee and a 0.9% unwrap fee. Users can wrap or unwrap their PEAS tokens at any time. When a user wraps PEAS, they receive pPEAS tokens in return. Pods can be staked on the Peapods platform to receive a portion of fees generated by wrap/unwrap fees.

Arbitrage

Pods are tradable on secondary markets on Uniswap, presenting investors with an arbitrage opportunity when volatility presents itself. A similar example would be when an ETF’s market value deviates from its NAV, allowing arbitrageurs to sell ETF shares and buy the underlying (if trading at a premium to NAV) or vice versa.

As you can see in the above image, there is a price difference between the pod’s fair value and the price of the pod on Uniswap. This is one of the most important underlying mechanics of Peapods. Peapods thrives on volatility as arbitrageurs will take advantage of price discrepancies between primary and secondary markets.

As seen in the above diagram, every time an arbitrageur takes advantage of a price discrepancy, they have to wrap or unwrap assets, resulting in fees accruing to Peapods. As long as the arbitrage opportunity is greater than the cost of fees, bots or investors will seize the opportunity.

Fee Distribution

Peapods takes all fees (after pTKN & partner fees are deducted) and purchases PEAS on the open market, resulting in consistent buy pressure for the token. Fees are taken as a percentage of pod tokens. 90% of the purchased PEAS are distributed to pod liquidity providers and 10% are burned, resulting in real yield for pod LPs and reduced supply of PEAS.

The above diagram displays the high-level concept behind Peapods’ protocol design. Peapods has taken it a step further and implemented additional features that should drive increased TVL into pods. The two primary enhancements are:

• Green Arrow Pods / pTKN Burn
• Partner Fees

Green Arrow Pods are any pods that burn a portion of pTKNs, making pTKNs deflationary while increasing the underlying backing.

In the scenario where a pod creator implements a pTKN Burn, up to 45% of fees will go towards burning pTKNs. By making pTKNs deflationary, users passively gain more exposure to the underlying pod assets.

The second enhancement is Partner Fees. Partner Fees are simply a fee given to pod “partners” for creating the pod, with a maximum fee of 5%. Fees are distributed to partners in pTKNs. The critical aspect of Partner Fees is that it incentivizes creators to market their pods to investors. The more TVL their pods take in, the more fees they put in their pocket, simultaneously generating more fees for Peapods. The attention economy is often talked about within crypto as investors focus a lot on what’s right in front of them. If crypto “influencers” are incentivized to market their pods, Peapods is creating an organic marketing engine that should help attract capital and generate higher fees.

We have summarized the different dynamics within the Peapods protocol below, and what benefits each offers.

Investment Thesis

Now that we have outlined how Peapods works, we can move on to what type of product demand Peapods should generate. In our view, there are three main drivers:

• Index Exposure
• Volatility Farming
• pTKN & Partner Fees

Index Exposure

Index products are extremely popular within traditional finance markets. Examples include ETFs, REITS, and mutual funds. Assets within ETFs have grown rapidly since the beginning of the century, growing from $204 billion to over $9.5 trillion in 2022.

ETFs often contain a basket of different equities for investors who are looking for broad exposure to a sector or theme. Popular examples would be the VanEck Semiconductor ETF (SMH) which holds various semiconductor stocks, or the ARK Innovation ETF (ARKK) which holds a basket of disruptive innovation companies.

Investing in index products removes stock specific risk by diversifying exposure, allowing investors to be directionally correct on a particular industry or sub-industry without having to do deep analysis on a multitude of companies. Index products are also extremely popular within retirement accounts in the form of mutual funds. Mutual funds are investment pools that are professionally managed and give holders exposure to different assets classes such as fixed income, money markets, and equities. The total assets within mutual funds has grown to $22 trillion as of 2022.

The popularity of index products has not been as profound within crypto as many investors think they can outperform the market on their own and crypto has a liquidity fragmentation problem, making it difficult for indices to collect sticky capital, but we believe additional benefits that pods offer to investors could be the determining factor allowing Peapods to capitalize on the huge market opportunity.

Volatility Farming

As we discussed earlier in this piece, Peapods benefits from asset volatility. When the price of pods and underlying assets deviates, an arbitrage opportunity presents itself to bots or diligent traders, resulting in wrapping or unwrapping fees for Peapods. The team uses catchy wording like volatility farming, but it is just applying market incentives to keep the market value of the pod in line with the underlying NAV, like how ETFs maintain their peg to NAV. In Peapods’ case, however, it passes the transaction fees that normally accrue to brokers to the users of the product.

For those who have been in crypto for a while, it is no secret that volatility comes with the territory. Examining the number of days that the total market cap of altcoins (all tokens except BTC & ETH) moved up or down 5% in a single day, we can see that swings can be quite violent (although less so last year).

Volatility will drive fees to Peapods, incentivizing users to purchase and provide pod liquidity to receive their share of protocol fees. The more volatility, the more arbitrage opportunities, the more fees to Peapods, the higher the incentive to purchase pods.

The effectiveness of the flywheel is already beginning to emerge. In the first 24 hours of Green Arrow pods going live, Peapods attracted 50 million in TVL with over 20 new pods created. In the same time frame, the PEAS token moved upwards about 40%, sparking arbitrages and fees, resulting in huge APRs for pod liquidity providers.

pTKN Fees

As we discussed, Peapods has implemented additional features into pods that will drive further demand for pods.

The pTKN burn is effectively an additional exit penalty that charges those redeeming their tokens from the pod a small fee on the tokens being unwrapped, and that fee is added to the NAV of the underlying pod. Thus, it is less of a deflationary phenomenon, and more of a fee that one receives for remaining in the pod. Peapods quantifies the ratio of NAV to pods as the Collateral Backing Ratio. As seen below, the ratio of OHM to pOHM in the OHM pod has risen to 1.01 in less than a week of the pod being active.

Partner Fees

Many early-stage projects use marketing budgets to partner with large names in the industry to spread awareness for their product, as maintaining investor attention is difficult. Peapods has created an organic marketing mechanism as pod creators can take up to 5% of fees, incentivizing them to advertise their pods to the masses and to perform well, thus attracting more AUM. It serves as an inbound marketing funnel with no need for Peapods to pay for marketing initiatives. If a pod manager can demonstrate that they create superior pods, they can justify charging a higher fee. Influencers will reap the benefits based on how aggressively they market their pods and how well they perform, generating free advertising for Peapods.

Putting it all together, Peapods has created an innovative protocol with a powerful flywheel. As more pods are created, more fees are accrued, more market buy and burns of PEAS, higher APRs for Pods, incentivizing more pod TVL, and so on and so forth. It’s worth noting that although Peapods is providing market buy pressure of PEAS, there is nothing stopping users from selling their share of fees on the open market after they’re distributed.

Liquidity

Peapods has a total supply of 10,000,000 tokens, all of which are circulating. At a current price of $8.83, that gives Peapods a fully diluted market cap of $88.3 million. There is approximately $4.7 million in liquidity on Uniswap, representing a ratio of approximately 5%. $4.7 million in liquidity should give most investors adequate depth without incurring too much slippage on purchases.

Risks

One risk to consider is the current valuation of Peapods. It has risen almost 50x to over $88 million in a little over a month. The rapid rise has been fueled by speculation around Peapods’ design and future TVL growth. There are near-term risks around price as investors try to attribute a valuation to Peapods based on fundamentals. We acknowledge the lofty valuation but would caveat this risk with the fact that in the 24 hours following the launch of Green Arrow pods, Peapods attracted $50 million in TVL and the deployment of nearly 20 new pods. We believe that, over the long term, Peapods will continue attracting significant capital, and current valuations are more of a near-term consideration.

Peapods is a novel protocol with a product that is not battle-tested. The whole flywheel is predicated on volatility generating fees for Peapods. If volatility diminishes, it has a reflexive negative effect on Peapods, similar to how increased volatility has a positive effect. Similarly, part of the thesis is predicated on demand for index products. There is the potential that index products have not caught on in crypto for a reason – that investors think they can outperform the market independently without paying a fee to invest in an index. In a scenario of a prolonged low-volatility environment and minimal demand for index exposure, the investment thesis for Peapods is likely invalidated. The easiest way to monitor this would be watching TVL within Peapods and the number of Pods created. As long as both metrics show sustained growth and stability, this becomes less of a risk.

Conclusion

Peapods is a new DeFi protocol combining index investing and volatility farming. They have designed a unique flywheel that starts to spin with the introduction of crypto volatility. As price discrepancies arise between pods and underlying assets, arbitrageurs take advantage of the opportunity, driving fees to Peapods. All protocol fees are used to purchase PEAS – 90% are distributed to pod LPs, and 10% are burned – providing real-yield and deflationary tokenomics. Given the popularity of index investing within traditional markets, we envision Peapods attracting significant TVL when considering the additional benefits that volatility farming and Green Arrow Pods bring to pod investors.