How does decentralized finance (DeFi) work? In today’s Crypto for Advisors newsletter, Elisabeth Phizackerley and Ilan Solot and from Marex Solutions co-authored this piece about the mechanics of a DeFi transaction using Ethena, Pendle and Aave and how they all work together to create investment yields.
Then, DJ Windle breaks down the concepts and answers questions about these investments in “Ask an Expert.”
Thank you to our sponsor of this week’s newsletter, Grayscale. For financial advisors near Minneapolis, Grayscale is hosting an exclusive event, Crypto Connect, on Thursday, September 18. Learn more.
– Sarah Morton
DeFi Yield Engines: Ethena, Pendle, Aave, and Hyperliquid
In traditional finance, advisers are used to products like bond funds, money market instruments, or structured notes that generate yield by recycling capital more efficiently. In decentralized finance (DeFi), a similar idea exists — but powered entirely by smart contracts, exploring how financial markets can run on blockchain rails. There has been no shortage of DeFi experiments over the past six years, since the sector kicked off; however, few have worked as well as the interplay between Ethena, Pendle, and Aave. Together, these three protocols have built a self-reinforcing cycle that channels more than $4 billion in composable assets. As the space develops, the interlinkages will likely expand even further, for example, by integrating elements of Hyperliquid and its new layer-1, HyperEVM. First, some definitions:
- Ethena: like a money market fund generating yield from futures.
- Pendle: like a bond desk splitting that yield into “fixed” vs. “floating” portions.
- Aave: like a bank offering loans against crypto-native collateral.
- Hyperliquid: like any crypto exchange for futures and spot trading, but fully on-chain.
The original USDe PT loop works roughly like this: It begins with Ethena, which issues USDe, a synthetic dollar backed by a combination of stablecoins and crypto. Ethena uses deposits to implement delta-neutral strategies on futures contracts to generate yield, which gets paid to stakers of USDe. Staked USDe is earning around 9% as of late August.
Pendle then takes USDe and decomposes it into two parts: Principal Tokens (PTs) and Yield Tokens (YTs). YTs represent the variable stream of yield (and any points accrued) from the underlying asset – USDe in this case. While PTs represent the underlying value of USDe, which is sold by Pendle at a discount (like a T-bill) then redeemed one-to-one at maturity.
Then Aave closes the loop by allowing investors to borrow against their PT deposits. Since PTs have a predictable redemption structure, they work well as collateral. So, depositors often borrow USDC (for example), and recycle it back into Ethena to mint new USDe, which flows again into Pendle, reinforcing the loop.
In short, Ethena generates yield, Pendle packages it, and Aave leverages it. This structure now accounts for the majority of Ethena’s deposits on Aave and most of Pendle’s total value locked (TVL), making it one of the most influential yield engines on-chain.
This flywheel didn’t only work because yields are attractive, but because the protocols share a common foundation. All three are EVM-compatible, making integration easier. Each is designed to be fully on-chain and crypto-native, avoiding dependencies on banks or off-chain assets. Additionally, they operate in the same DeFi “neighborhood,” with overlapping user bases and liquidity pools that accelerate adoption. What might have otherwise remained a niche experiment has become a core building block of on-chain yield strategies.
The natural question now is whether a fourth protocol will join, and Hyperliquid has a strong case for doing so. Ethena uses Hyperliquid perps as part of its yield-generating strategy, and USDe is already embedded within both HyperCore and the HyperEVM. Pendle has $300 million in TVL tied to HyperEVM products, and its new Boros funding-rate markets is a natural fit for Hyperliquid perpetual futures. Aave’s relationship with Hyperliquid is more tentative, but the emergence of HyperLend, a friendly fork on HyperEVM, points to a deeper integration ahead. As Hyperliquid expands, the system could evolve from a closed loop into a broader network. Liquidity would no longer just cycle within three protocols but flow directly into perpetual futures markets, deepening capital efficiency and reshaping how on-chain yield strategies are built.
The Ethena-Pendle-Aave loop already shows how fast DeFi can scale when protocols share the same environment. Hyperliquids could push this model even further.
– Ilan Solot, senior global markets strategist and co-head of digital assets, Marex Solutions
– Elisabeth Phizackerley, macro strategist analyst, Marex Solutions
Ask an Expert
Q. What does “composability” mean in DeFi?
A. In traditional finance, products exist in silos. In DeFi, composability means protocols plug into each other like Lego blocks. Ethena creates yield, Pendle packages it, and Aave lends against it, all on-chain. This makes growth fast but also means risks can spread quickly.
Q. What are Principal Tokens (PTs) and Yield Tokens (YTs)?
A. Pendle splits an asset into two parts. The Principal Token (PT) is like buying a bond at a discount and redeeming it later. The Yield Token (YT) is similar to a coupon, providing an income stream. It’s simply a way to separate principal from yield in crypto form.
Q. What is a “delta-neutral strategy”?
A. Ethena uses this to keep its synthetic dollar stable. By holding crypto and shorting futures simultaneously, gains and losses offset each other. The setup stays dollar-neutral while still generating yield similar to market-neutral hedge fund strategies, but on-chain.
– DJ Windle, founder and portfolio manager, Windle Wealth
Keep Reading
- There are now 92 cryptocurrency-related ETF applications pending approval with the U.S. Securities and Exchange Commission.
- Google Cloud is developing the Universal Ledger (GCUL), a new Layer-1 blockchain designed for financial institutions.
- SEC Chair Paul Atkins has floated the vision for a unified “SuperApp Exchange” where investors could trade everything from tokenized stocks and bonds to cryptocurrencies and digital assets under a single platform.