What is Set Protocol?
As the world of DeFi continues to expand, managing your assets is more important than ever. With so many tokens available, it can be challenging to keep track of your portfolio and make informed investment decisions. Fortunately, Set Protocol offers a comprehensive solution to this problem. By providing an easy-to-use platform for creating and managing crypto index funds, Set Protocol allows investors to diversify their portfolio and minimize risk in a fast-changing market.
Set Protocol first made it into the crypto scene in 2017. Their mission was to help build decentralized tools for DeFi while simplifying the process of interaction with various tokens. At the time, the ICO fever reached its fever pitch, with hundreds of tokens being launched every week.
As simple as it sounds, Set Protocol came with the clever idea of bundling tokens together. Later on, token sets laid out the blueprint for bringing traditional finance tools such as index funds or ETFs, to the DeFi industry.
One of the biggest hurdles was managing transaction fees on the Ethereum network. For example, if one wanted to send 100 tokens he would need to broadcast 100 transactions and thus pay 100 transaction fees. It is easy to see why Set Protocol gained support early on: users finally had a convenient way to manage multiple tokens at once. In the context of 2017, Set Protocol was envisioned as a management tool for crypto assets, and since DeFi took off, its TVL has grown to $100M.
Set Protocol derives its value from bundling multiple tokens into one. By using Set, anyone can construct and exchange complex financial instruments such as market indices, index funds, or ETFs. Furthermore, {Set}s smart contracts have been optimized for the smallest gas consumption. The process of bundling tokens results in one token that contains a basket of crypto assets, which can then be transferred by paying for a single transaction.
Buying or building token sets is open to regular users and institutions alike – no KYC is required. {Set}s are trustless, as smart contracts autonomously hold the underlying tokens as collateral.
As the yield opportunities across DeFi multiply, Set Protocol aims to incorporate as many of these financial primitives into its token sets. Users can not only bundle tokens together but they can also incorporate the strategies into them. For example, token sets can incorporate leveraged positions with minimal transaction costs.
Often times, Set Protocol is strongly associated with Index Coop. The two projects work to create, market, and manage a variety of crypto indices that are designed to meet the needs of different types of investors. In other words, Set Protocol provides the technology and infrastructure for creating and managing crypto index funds, while Index Coop uses Set Protocol to create and manage a variety of index products for the benefit of its users.
Set Protocol is actively developed by Set Labs. The team plans to gradually decentralize its governance and launch its own token. As of 2023, the details of a token launch remain scant.
On May 2, 2023, Set Protocol made public an exploit that has affected two Sets that were built on Set Protocol and deprecated in 2020.
An internal Set hot wallet, which managed the deprecated ETH USD Yield Farm (USDAPY) and ETH WBTC Yield Farm (WBTCAPY) Sets was compromised by an exploiter, resulting in a direct combined loss of approximately $49,000.
Apparently, the attacker had been slowly siphoning funds from the Sets by transferring ownership of the Sets, setting the maximum streaming fee, and periodically actualizing the fees.
Upon discovering the incident, the Set team froze operations of the affected Sets from Set Protocol V2, effectively preventing the hacker from extracting more value. To make it easier for the attacker to surrender, Set Protocol promised a 20% bounty over the totality of stolen funds and the promise to not pursue any legal action.
After the incident, the Set team have confirmed that no other Sets have been, nor will be, compromised.
How does Set Protocol work?
Set Protocol is an EVM-based protocol that enables users to easily create an asset management strategy, and translates that strategy into a simple ERC20 token to allow other users to follow. Its use cases start from creating your own metaverse index, and expands to leverage indexes. You can think of Set Protocol as an automated asset management strategy.
SetToken Factories are a core component of the protocol. They are smart contracts that contain the template for creating SetTokens.
SetTokens are added on top of the SetToken Factories. These are smart contracts that implement the ERC20 standard and house the state of component composition, user balances, managers, and enabled modules.
Modules are yet another set of smart contracts that enable further customization of the token sets. For example, modules enable components to be wrapped, or traded with other DEXs.
Set Protocol has created TokenSets, a platform where users can buy and sell token sets. Perhaps the simplest way to explain Set Protocol is by looking at its most popular token sets.
Thematic Exposure Sets
This category of token sets is best compared to an index fund, each with its own category of tokens i.e metaverse, DeFi, FAANG Index. Thematic Sets are the best way for a user to capture diversified returns across many different projects.
These Sets often rebalance on some cadence, such as monthly or quarterly. Rebalancing is done automatically based on a predetermined criteria. For example, the DeFi Pulse Index automatically rebalances monthly, based on the value of each token’s circulating supply.
In addition to DeFi and metaverse tokens, users can also gain exposure to NFTs. One of the biggest NFT Sets is the JPG NFT Index, that includes shares of the Doge NFT, XMON, Punk Vault NFTX, Whale, and Unisocks. In other words, by buying a JPG NFT Index token, you automatically gain exposure to these NFTs.
Leveraged Sets
Leveraged Sets are short-term products that give investors a leveraged long or short position for a given asset/group of assets. These products obtain their leverage entirely on-chain, via some external protocol such as Aave, Compound, or Perpetual Protocol, and require no additional management from investors.
Leveraged Sets often have long names such as: iMATIC-FLI-P (Inverse MATIC Flexible Leverage Index) or BTC2x-FLI (Bitcoin 2x Flexible Leverage Index).
Their token ticker reflects the strategy that is embedded in the token set. For example, BTC2x-FLI lets you leverage a collateralized debt position in a safe and efficient way, by abstracting its management into a simple index.
Each of these Leveraged Sets are managed by the creator, who is tasked with rebalancing assets in their Set. In exchange for is services, the creator of the set takes an annualized fee on the total market cap of the set. Additionally, the creator may add an issuance fee, or a redemption fee.
To understand the fees on Set Protocol, it is important to mention that anyone can issue existing token sets. Let's say we want to have exposure to BTC2x-FLI (Bitcoin 2x Flexible Leverage Index). In order to mint a BTC2x-FLI set, we need to deposit the collateral (CWBTC in this case), and we have instantly gained 2x leverage on Bitcoin. From this point on, the creator of the Set will manage the leveraged position on our behalf.
Set Protocol goes a step further and allows the manager to create smart contracts to automate, customize their actions. This feature is enhanced by dozens of managers who collaborate and launch new templates for managing Token Sets.
At the end of the day, users interact with a smart contract instead of the manager's wallet. The manager can only rebalance token sets and perceive the performance fees stated on the Token Set page. There is no risk for the manager to run away with the funds as he's not the one controlling them – every action is done by the Set smart contracts.
Yield Bearing Sets
Yield Bearing Sets earn interest/yield over time, based on varying creative strategies. For instance, icETH and ETHMAXY earn yield via governance rewards on Aave using stETH.
How to make money on Set Protocol?
Making money on Set Protocol implies buying and holding token sets. Depending on the type of set (Yield Bearing, Thematic Exposure, Leveraged), you can gain exposure to a certain strategy. The best part about owning sets is that you don't have to manage the strategy yourself.
Here's how you buy a token set:
Go to Set Protocol app
Select the token set category
Select the asset and click "Issue"
Approve the token(s)
Input the collateral
Click "Issue"
Approve the transaction
Profit!
Redeeming a Set on TokenSets is an almost identical process to issuance. The difference lies in the preview module where you can input how many Set tokens you want to transact, and currently hold within your connected wallet, and send to the underlying Set tokens in return for the corresponding collateral.
Because anyone can create Token Sets, it is highly recommended not to buy them unless you are familiar with the manager. In addition, it is recommended to check the contracts on Etherscan to make sure the tokens included in the set are the correct tokens, and not some fake versions i.e Dogecoin vs Dogcoin.
