Why can't on-chain fixed-rate lending work?

Written by: Nico Pei

Translated by: Jiahui, Chaincatcher

Insights from Private Credit

Fixed-rate lending dominates the private credit space because borrowers need certainty, not because lenders prefer it.

Borrowers—corporations, private equity, real estate sponsors—primarily care about cash flow predictability. Fixed rates eliminate the risk of benchmark interest rate increases, simplify budgeting, and reduce refinancing risk. This is especially important for leveraged or long-term projects where interest rate volatility could threaten repayment ability.

In contrast, lenders generally prefer floating rates. Lenders price loans as “benchmark rate + credit spread.” Floating structures protect profit margins when rates rise, reduce duration risk, and allow lenders to capture upside when benchmark rates increase. Fixed rates are usually offered only when lenders can hedge interest rate risk or charge an additional premium.

Therefore, fixed-rate products are a response to borrower demand, not a default market structure. This explains a key lesson from DeFi: without clear, persistent demand from borrowers for rate certainty, fixed-rate lending struggles to achieve liquidity, scale, or sustainability.

Who Are the Real Borrowers on Aave and Morpho?

Misconception: “Traders borrow from the money market to leverage or short.”

Unilateral leverage is mostly achieved through perpetual contracts (Perps), which offer superior capital efficiency. In contrast, the money market requires over-collateralization and is less suitable for speculative leverage trading.

The total stablecoin lending volume on Aave alone is about $8 billion. Who are these borrowers?

Broadly, there are two types of borrowers:

Long-term holders / whales / treasuries: Borrowing stablecoins against collateralized crypto assets to access liquidity without selling assets, thus maintaining upside exposure and avoiding realization or tax events.

Cycle yield seekers: Borrowing to leverage yield-bearing assets (like LST/LRT, stETH) or interest-bearing stablecoins (like sUSDe). Their goal is to earn higher net yields, not to take directional long or short positions.

Is there genuine on-chain demand for fixed rates?

Yes—demand is concentrated among institutional collateralized crypto assets and cyclic lending strategies.

Institutional Collateralized Crypto Assets

Maple Finance offers over-collateralized loans, using blue-chip crypto assets like BTC and ETH as collateral to lend stablecoins. Borrowers include high-net-worth individuals, family offices, hedge funds, and other participants seeking cost-predictable fixed-rate funding.

Although Aave’s USDC lending yield is around 3.5%, Maple Finance’s fixed-rate institutional loans collateralized by blue-chip assets settle at approximately 5.3% to 8% APY—meaning there is a premium of about 180–450 basis points when switching from floating to fixed rates.

In terms of market size, Maple’s Syrup pool alone has about $2.67 billion TVL (Total Value Locked), comparable to Aave’s approximately $3.75 billion in outstanding loans on Ethereum mainnet.

(Aave ~3.5% vs Maple ~8%: Fixed-rate, crypto-collateralized loans carry a ~180–400 basis point premium)

However, it’s worth noting that some borrowers choose Maple over Aave to avoid hacking risks. But as DeFi matures and transparency and liquidation mechanisms prove resilient, this historical smart contract risk diminishes. Protocols like Aave are increasingly seen as secure infrastructure, suggesting that if on-chain fixed-rate options become available, the off-chain fixed-rate crypto loan premium should compress over time.

Cyclic Lending Strategies

Despite demand from cyclic lenders reaching billions, the strategy is nearly unprofitable due to unpredictable lending rates:

While cyclic lenders profit from fixed-rate yields (e.g., PTs), funding these strategies with floating-rate loans introduces interest rate risk, which can suddenly wipe out months of gains or cause losses.

Historical data shows that borrowing rates on Aave and Morpho are far from stable:

If borrowing rates and interest-bearing asset yields are both fixed, funding risk is eliminated. Strategies become easier to execute, positions can be held as expected, and capital can be scaled efficiently—allowing cyclic lenders to deploy funds confidently and push the market toward equilibrium.

With over five years of proven security and the development of on-chain fixed income led by Pendle PTs, demand for on-chain fixed-rate loans is rapidly growing.

If demand for fixed-rate lending already exists, why hasn’t the market grown? Let’s look deeper into the supply side of fixed-rate loans.

Liquidity Is the Lifeblood of On-Chain Funds

Liquidity means the ability to adjust or exit positions at any time—no lock-up periods—lenders can withdraw capital, borrowers can close positions, reclaim collateral, or repay early without restrictions or penalties.

Pendle PT holders sacrifice some liquidity because Pendle v2 AMM and order books cannot absorb market exits exceeding about $1 million without significant slippage, even in their largest pools.

What compensation do on-chain lenders for this illiquidity receive? Based on Pendle PTs, typically over 10% APY, and during aggressive YT token trading (e.g., on Arbitrum with usdai), it can reach over 30% APY.

Clearly, crypto borrowers cannot pay 10% interest for fixed-rate loans. Without speculating on YT token points, such rates are unsustainable.

I am fully aware that PTs (Principal Tokens) add an extra layer of risk above core money markets like Aave or Morpho—including Pendle protocol risk and underlying asset risk. Structurally, PTs are much riskier than the underlying lending.

However, the core point remains: without offering high interest rates, requiring lenders to give up flexibility in fixed-rate markets cannot scale. When liquidity is removed, yields must rise sharply to compensate—and these rates are unsustainable for genuine, non-speculative borrowing needs.

Term Finance and TermMax are good examples of fixed-rate markets that cannot expand due to this mismatch: few lenders are willing to sacrifice liquidity for low yields, and borrowers don’t want to pay 10% APY fixed when Aave rates are around 4%.

Since liquidity is valuable, how can we effectively serve fixed-rate borrowing needs to reach a market equilibrium satisfying both lenders and borrowers?

Breaking the Deadlock: Abandon the Old “Point-to-Point Matching” Mindset

The solution isn’t forcing a match between “fixed-rate borrowers” and “fixed-rate lenders.” Instead, it should be matching “fixed-rate borrowers” with “interest rate traders.”

First, most on-chain funds trust the security of top protocols like Aave and Morpho and are accustomed to passive investing.

Therefore, to scale the fixed-rate market, lenders’ experience must be identical to their current experience on Aave:

Deposit at any time

Withdraw at any time

Minimal additional trust assumptions

No lock-up periods

Ideally, fixed-rate protocols could directly integrate the security and liquidity of Aave, Morpho, and Euler. Ideally, it would be a protocol built on these trusted money markets.

Trade Rates vs. Trade Maturities

Second, in fixed-rate loans, borrowers don’t need to lock the entire loan term into a fixed duration. Instead, they only need to find capital willing to absorb the difference between the fixed rate and Aave’s floating rate (e.g., hedgers or traders), while the rest of the funds can be sourced from floating-rate markets like Aave, Morpho, or Euler.

This mechanism is achieved through interest rate swaps: hedgers exchange fixed payments for floating income that perfectly matches Aave’s floating rate, providing rate certainty to borrowers while allowing macro traders to express views on rate movements with high capital efficiency (e.g., implied leverage). This avoids the problem of lenders sacrificing flexibility in traditional models and promotes market scale.

Capital efficiency: Traders only need to deposit margin to cover their rate risk exposure, which is far less than the full nominal of the loan. For example, for a one-month position, a $10 million short on Aave’s borrowing rate with a fixed 4% APY, the trader only needs to put in $33,300—implying 300x implicit leverage and very high capital efficiency.

Given that Aave rates often fluctuate between 3.5% and 6.5%, this level of implicit leverage allows traders to trade interest rates like tokens, which often move from $3.5 to $6.5, meaning:

• Much more volatile than mainstream cryptocurrencies;

• Strongly correlated with the price of major tokens and overall market liquidity;

• Without using explicit leverage (e.g., 40x on BTC), which is easily liquidated.

For the purpose of this article, I won’t delve into the differences between implicit and explicit leverage. I’ll save that for another piece.

The Path to On-Chain Credit Expansion

I foresee that as on-chain credit grows, demand for fixed-rate loans will expand because borrowers increasingly value predictable financing costs to support larger, longer-term positions and productive capital deployment.

Cap Protocol is leading the on-chain credit expansion space and is a team I follow closely. Cap enables re-staking protocols like Symbiotic and EigenLayer to provide insurance for institutional credit-based stablecoin loans.

Currently, interest rates are determined by utilization curves optimized for short-term liquidity. However, institutional borrowers value rate certainty. As on-chain credit scales, a dedicated rate trading layer will become essential to support duration-aware pricing and risk transfer.

3Jane is another protocol I follow closely. It focuses on on-chain consumer credit, a critical niche for fixed-rate loans, as nearly all consumer credit is fixed-rate.

In the future, borrowers will access services through unique rate markets segmented by creditworthiness or asset backing. In traditional finance, consumer credit is often initiated with retrospective credit scoring at a fixed rate, then sold or securitized on secondary markets. Unlike locking borrowers into a single, lender-set rate, on-chain rate markets can allow borrowers to directly access market-driven rates.