Unifying Risk Assessment in DeFi: A Critical Barrier to User Onboarding

DeFi continues to evolve rapidly, introducing new asset classes and innovative financial products that push the boundaries of what’s possible in finance. Yet, for all its advancements, one fundamental challenge remains: risk profiles in DeFi are often unclear, inconsistent, and difficult to quantify. This isn’t just a technical issue, it’s a critical user experience (UX) barrier that discourages both individual and institutional investors from engaging confidently with the ecosystem. Asset managers and users currently have to sift through a maze of new financial instruments without a clear way to assess their risk. This lack of transparency leaves users uncertain and hesitant, undermining the accessibility and growth of DeFi as a whole.

The Opaque Nature of Expanding Asset Classes

As the DeFi space matures, it’s replicating certain parts of traditional finance onchain, but it’s also creating entirely new categories of financial instruments. The landscape now includes a wide array of asset classes, such as structured products like Ethena, restaking protocols like Eigenlayer, various yield-bearing stablecoins, and tokenized real-world assets (RWAs). While these innovations open new avenues for generating yield and managing capital, they also bring with them risks that are perhaps novel or opaque to the average user.

Many assets don’t fit neatly into existing risk assessment frameworks for crypto, which generally focus on market-, smart contract-, and liquidity-based factors. For instance, restaking introduces risks that extend beyond the underlying staking mechanisms, with new and underexplored exposures to Actively Validated Services (AVS). The size of the restaking market alone makes it an important problem to solve to avoid a systemic issue in the future. Similarly, structured products built on complex derivatives can carry counterparty risks or hidden risks that are challenging to track in real-time. Yield-bearing stablecoins, which offer returns on stable assets, may appear straightforward but can involve intricate risk factors tied to collateralization strategies, smart contract dependencies, or offchain legal structures.

The broadening of DeFi asset classes increases the complexity and nuance of the risk analysis landscape. There is an increasing need to evaluate not only smart contract and market risks, but also incorporate analysis of counterparty, legal, regulatory, operational, and other offchain risks. While these risks have been analyzed in traditional finance risk management frameworks for decades, their nature differs significantly in DeFi. For instance, counterparty exposure in staking or restaking tokens is linked to the structure and reliability of various validator and node operator networks, necessitating an entirely new perspective.

The lack of a unified risk assessment framework means that users get an inconsistent and fragmented view of what’s at stake, effectively creating hidden risks within their portfolios. Even seasoned DeFi participants may struggle to fully understand the implications of engaging with newer financial instruments. Without a clear framework for measuring and communicating these risks, the UX problem becomes a systemic barrier to growth​.

Not All Markets Are Made Equal: Risk Abstraction vs Unification

In DeFi, risk-reward decisions typically hinge on qualitative measures like expert evaluations or perception of the protocol’s team, or often misleading quantitative measures such as yield or TVL. These methods, while helpful, fall short of delivering the quantitative rigor and breadth needed for scalable risk management. DeFi protocols have yet to adopt risk frameworks that uniformly apply to their diverse and rapidly expanding asset landscape.

DeFi is inherently composable, allowing a range of assets to be used across unique underlying lending structures. As a result, each individual platform can offer an incredible variety of exposures, where yields may be low single digits or four-figure APYs (see below). It’s difficult for a user to decide where to deploy unless it’s by following TVL, chasing a particular range of yields, or becoming a partially informed crypto analyst. The typical interface has inadvertently found a way to give users information overload while abstracting away risk information.

The challenge for platforms is that adding risk information is not straightforward. As discussed, the risk of each of these assets and pools is nuanced and not often easy to explain. This can exacerbate the information overload for a user, and is often too big a lift for any DeFi platform to deliver successfully.

The answer to this problem is to unify and simplify risk metrics for a user to glean relevant risk information effectively. There isn’t a need to reinvent the wheel, traditional finance relies on credit ratings which provide a standardized way to evaluate risk across asset classes. They are engrained as an efficient (albeit not perfect) way to distill risk and supplement the decision making process for investors.

The fragmented and qualitative nature of current DeFi risk analysis results in an APY- and TVL-driven investing culture that’s unfit for institutional-grade risk management, while also being a confusing and limiting user experience for retail.

Institutional Adoption Potential

As shown throughout 2024, institutions are excited by the potential of DeFi, but to actively invest has thus far been seen as a step too far for many of them. This has been explained as a regulatory issue, with concerns around KYC and AML for the money they interact with. However, a significant blocker is also the difficulty in understanding the full scope of risks associated with these diverse asset classes.

So far, RWAs have been presented as the way to bring institutional capital onchain. Tokenized RWAs have gained a lot of attention, and have immense potential to reduce the cost of debt issuance for institutions and make access to those issuances broader. However, they perhaps don’t represent the primary appeal of DeFi for institutional investors. Until debt is natively issued onchain, they generally have access to the same opportunities already. What may more credibly bring that capital onchain sooner is the ability to confidently invest in a new range of differentiated yield products, which are not accessible in TradFi. To do that, institutions need to properly understand and explain the full spectrum of DeFi risks and compare them definitively to traditional assets. Arguably, making that data available in a unified and well-understood format (credit ratings), can attract more institutional capital than all the RWAs combined.

To truly court institutional participation, DeFi needs risk analysis tools that meet traditional finance standards. Offering due diligence reports, in-depth risk profiling, and benchmarking against traditional assets could make DeFi products more appealing to institutions.

Addressing the UX Problem Through Risk Transparency

At its core, the lack of standardized risk metrics in DeFi drives a UX problem that inhibits core actions — from evaluating opportunities to managing portfolios and executing trades. By developing a credible and scalable approach to risk quantification, the industry can not only enhance the user experience but also unlock a new wave of participation from institutional players currently on the sidelines.

To fully realize the potential of DeFi, the industry must prioritize developing a unified and transparent approach to risk assessment. This means adopting risk metrics that are easily accessible, comparable, and quantifiable for users at every level. By simplifying and standardizing this information, DeFi can empower investors to make informed decisions, create greater trust, and attract institutional investment that can further accelerate the path to mainstream adoption.