Foreword
The Defi field has not performed as well as it should have in this bull cycle with no significant uptick, not even as well as meme coins. However, in the market situation where the price of Bitcoin keeps hitting new highs while altcoins prices keep falling, top projects in Defi that have gone through the last market cycle are looking more attractive at this special time, and it may be the right time for these projects to work harder and get some progress. This article will provide an overview of lending protocols’ features in Defi and analyze Morpho, a representative project of the lending venue in detail.
Highlights
l The Defi lending protocols offer a simpler and more efficient financial model, and this venue’s features include high PMF, mature business model , and strong moat.
l Morpho is an ethereum-based lending and borrowing protocol that provides depositors and borrowers with better interest rates than peer-to-peer pooling protocols (such as Aave and Compound) through P2P matching. The essence of its business is to provide interest rate optimization services by matching them with Aave and Compound as a capital buffer pool.
l Morpho token utility is limited to voting and project incentives, and remains non-transferable, so there is no secondary market price; token incentives are decided quarterly or monthly, which are very innovative, more pragmatic and conducive to flexible adjustments by the team. Currently, the team still has enough tokens for incentivization, which provides sufficient budget for the launch of new features of candidate products.
l The highlights of the Morpho project are that it highly meets the market demand, the business is growing extremely fast, and the token budget is sufficient. It inherits the security and brand reputation of the top lending protocols Aave and Compound, and it has a smooth operation history. In addition, there has not yet been another similar competitor based on the existing lending protocols among the market; the risk point is that its ability to liquidate in extreme cases cannot be guaranteed, because the P2P model has its own clearing system rather than relying on Aave and Compound’s clearing mechanism.
1. An Overview of the Decentralized Lending Venue
In 2017, Aave (known as ETHLend then) and Compound were launched as the first DeFi lending protocols to enable peer-to-peer cryptocurrency lending. Their new model circumvents traditional intermediaries and offers a simpler and more efficient financial model using ETH as collateral. In 2018, the lending protocols introduced features such as liquidity pooling, credit delegation, flash lending, and
stablecoin integration, providing users with greater efficiency and flexibility. After the baptism of the market, the current observation of the lending venue is characterized as follows.
1. 1 High PMF and Maturing Business Model
Decentralized lending venue has been firm in the last bull/bear cycle, and is one of the few product categories in web3 that has achieved a high PMF (Product market fit), and its TVL is also among the top, which have reached $29. 141B, ahead of other venues such as Defi’s Dex and Derivatives.

From the demand side of lending, active loan volume in 2019 was only a few hundred thousand dollars, peaking at $22.5 billion in November 2021, bottoming out at $3.8 billion in November 2022, and has slowly rebounded to nearly $10 billion, which shows good resilience despite the bear market. The chart below shows the trend in active loan volume over the last 1 year.

Top lending protocols such as Aave have gradually moved on from relying on high subsidies to maintain operating income, with business model experiments achieving success and acquiring the ability to generate stable cash flows. Taking Aave as an example, its agreement revenue has exceeded the token incentive expenditure since December 2022 as shown in the chart below. The agreement revenue in June 2024 was $6.54M, while the token incentive expenditure was $1.07M. Therefore, Aave’s current deposit and lending model is running well, and it is a product that meets the needs of crypto users, rather than a Ponzi supported by liquidity mining.

1.2 Strong Moats
Compared to the Dex in Defi space, the competitive landscape in the lending venue is more stable, with little change in market share and protocol rankings. Aave’s market share has remained stable in the 50–60% range since its launch in mid 2021, while second-place Compound has remained relatively solid in the rankings to date, despite its share being constantly squeezed. The chart below shows the share of active loan volume for each program in the lending circuit over a 1-year period.

Competition among Dex projects is very fierce, even for the top one Uniswap. Although after the launch it has quickly occupied to nearly 90% of the transaction volume market share. But under the impact of Sushiswap, Curve, Pancakeswap, etc., its market share once fell to 37%, and is now back to about 50%.

In addition, lending protocols are much more profitable. As mentioned above, top lending protocols such as Aave have been able to achieve positive cash flow without subsidizing, with monthly operating revenues in the range of $1.5–2 million. Most Dex projects, on the other hand, either have not yet turned on fees at the protocol level, as Uniswap has done (only front-end fees have been turned on), or the value of the tokens used for liquidity incentives is much larger than the protocol’s fee income, and are actually operating at a loss. In the lending field, a recent bright project is Morpho, which is analyzed in detail below.
2. Project Outlined
2. 1 Overview
Morpho is a decentralized lending protocol based on ethereum with a simple and
clear value proposition: better interest rates for both borrowers and lenders, i.e., higher returns on deposits and lower interest rates on borrowing. The way to achieve this is by acting as an intermediary to match liquidity on a P2P basis, thereby increasing the efficiency of capital utilization and providing better interest rates for both borrowers and lenders. If a P2P match cannot be found, the loan will be matched with liquidity from the underlying lending pool. The
Morpho protocol is currently available in two main versions: Morpho Blue and Morpho Optimizers.
2.2 What Problem does Morpho Solve?
Lending protocols such as Aave, which aim to match borrowers and lenders peer-to-peer (P2P), disrupt the traditional model of finance and are revolutionary because they allow users to borrow directly from each other, enabling market-based interest rates and higher capital efficiency. But this optimization comes at a price: it does not attract enough liquidity to allow users to seamlessly move in and out of lending. With this in mind, lending protocols have shifted their focus from peer-to-peer lending to peer-to-peer pooled lending, a model utilized in protocols such as Aave and Compound, which solves the liquidity problem. Lenders can deposit their assets into a pool of liquidity to earn income, while borrowers can utilize that liquidity when they need a loan. As a result of the use of pools, these lending protocols can provide on-demand liquidity, with interest paid by the borrower and socialized among the lenders.
But this also comes at a cost in the form of reduced capital efficiency. In 2022, spreads on Aave’s largest lending pools can sometimes exceed 250 basis points. Its mechanism dictates that the total size of the deposited funds (pool) is always larger than the total size of the lent funds (points), and the spread between lending and borrowing rates is inevitably large, with the majority of cases where there are $1 billion in total deposits in the USDT money market but only $600 million in USDT lent. In such a deposit-borrowing mismatch environment, for depositors, since the idle $400 million is also used to distribute the interest generated by $600 million of borrowing, each person can share less interest; for borrowers, although only a part of the deposit pool is borrowed, they actually have to pay interest for the entire pool, and each person bears more interest. With these inefficiencies in mind, Morpho acts as a lending pool optimizer on top of existing lending protocols such as Aave and Compound. As an example, the
Morpho Optimizer module has the following solutions.
l Deposit: Deposit user BOB deposits 10,000 Dai into Morpho, which will first deposit the funds into Aave V2’s money market at Aave’s market rate of 5%.
l Borrowing collateral: Borrowing user ALICE first deposits collateral 20 ETH into Morpho and asks to lend 10,000 Dai, Morpho will deposit the collateral into Aave V2’s money market.
l Deposit-borrow match: Morpho then retrieves the 10,000 Dai previously deposited by BOB into Aave and directly matches the lending to ALICE. note that at this point, BOB’s deposit and ALICE’s borrowing are perfectly
matched, with BOB’s deposit being fully lent without idleness; and ALICE pays interest only on its own lending of 10,000 Dai, not on the entire pool of funds. Thus with this matching, BOB receives a higher interest rate on its deposits, 7.4%, than the Aave point-to-pool model of 3.67%; ALICE bears a lower interest rate on its borrowings, also 7.4%, than the Aave point-to-pool model of 12.83%, and both parties’ interest rates are optimized.
*Note: Whether the interest rate for the 7.4% P2P in the example is closer to the lower (deposit APY) or upper (borrowing APY) limit of the underlying agreement is determined by Morpho’s parameters, which are determined by governance.
l Resolving the mismatch: Assuming that at this point BOB wants to get back the previously lent Dai, and ALICE has not yet repaid the money, then in the absence of any other lender of funds on Morpho, Morpho will borrow 10,000+ Dai’s principal and interest from Aave, using ALICE’s 20 ETH as collateral, and offer it to BOB to complete the redemption.
l Matching order: Considering the cost of Gas, the P2P matching of deposits and borrowings is to “match large funds first”, the larger the deposits and borrowings, the more priority is given to matching. The larger the deposit and borrowing funds, the higher the priority of matching. In this way, the gas spending per unit of funds is low. When the value of the gas spent to perform the match is too large in relation to the amount of funds to be matched, the match will not be performed to avoid excessive wear and tear.

This gives the user, no less, the same interest rate as Aave or Compound, and since Morpho’s products are built on Aave and Compound, the risk parameters are exactly replicated and enforced, greatly inheriting the brand credibility of these two established protocols.
2.3 Business data

As shown in the chart above, the blue line is the total deposits, the light brown line is the total borrowings, and the dark brown line is the matches, which shows that Morpho’s deposits and borrowings on the platform have been steadily increasing since the program’s inception, and peaked in March of this year.
Looking at the lending venue as a whole, Morpho is also nearly as close to the second largest protocol, Compound, in a solid third place in terms of active borrowing volume.

However, Morpho’s agreement revenue is currently 0, as Morpho has not yet charged for its services.
3. Tokenomics
3. 1 Token Generalization and Distribution
Morpho tokens totaled 1 billion, with 80% of the tokens minted by the DAO, the association minted 20% and sold 19% of the tokens to investors in two funding rounds in 2021 and 2022.
The distribution mechanism for Morpho tokens is shown in the figure below:

51% of that goes to the community, 19% is sold to investors, the founders and the development company behind it. Morpho Labs, and the operating organization, Morpho Association, own 24%, and the remainder goes to advisors and contributors.
3.2 Token Utility
Morpho rewards users with tokens for using the product, which are currently non-transferable and therefore do not have a secondary market price. Token utility includes voting and incentives, and users and investors who receive tokens can participate in voting on governance, but cannot sell them.
Morpho’s token incentives are decided in batches, on a quarterly or monthly basis, which gives the governance team the flexibility to adjust the incentive’s strength and specific strategy in response to changes in the marketplace, making it a more pragmatic way of allocating incentives. Recent official token spending on incentives is rapidly decreasing, but the reduction in incentives has not slowed the growth of Morpho’s business.
3.3 Release Schedule
To keep token incentives flexible, the Morpho team has implemented a system of ages and epochs. Ages occur every three months, and the community votes on the number of tokens to be released in each age. Within each age there are three epochs during which users can collect MORPHO rewards. Additionally, during each Epoch, MORPHO token holders will vote on the metrics that will guide the rewards for a particular pool of tokens, with the first vote taking place before the first Epoch of Year 3.

Such a release schedule sends a positive signal to the outside world, with 51% of the community’s token share now remaining at 48%, leaving ample incentive budget in advance for future new Morpho business.
4. Team and Financing
4. 1 Team Background
Morpho’s core team is from France, and Linkedin shows that the team currently consists of 24 people, with Paul Frambot and Merlin Egalite as the co-founders of Morpho Labs, Paul with a background in blockchain and distributed systems from Ecole Polytechnique in Paris, and Merlin as an experienced software developers.

4.2 Financing
Morpho has raised two rounds of funding, a $1.3M seed round in October 2021 and an $18M Series A round in July 2022 led by A16z and Nascent and Variant.
If the above financing amount corresponds to the officially disclosed 19% investor share, then the corresponding consolidated valuation of the project is around $100 million.
5. Summary
Morpho, as a rising star in the Defi lending circuit, aims to address the inefficiencies that exist in traditional pooled lending models, and its impact is so far-reaching that it may drive the Defi market in the direction of greater efficiency and competitiveness. Of course, such innovations also bring new risks, such as the complexity of managing P2P interactions, etc. By challenging established business models in finance and proposing more efficient solutions, Morpho is demonstrating the potential of Defi innovations that are also reshaping the future landscape of finance.
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