Tokenised Private Credit: Unlocking Yield and Liquidity in DeFi

Introduction: Bridging TradFi Illiquidity and DeFi Liquidity

Private credit, the domain of bespoke loans and non-bank lending, is notoriously illiquid, complex, and opaque. Institutional investors (LPs) can face multi-year lockups and infrequent redemptions. Crypto markets, however, are known for 24/7 activity with a relentless focus on liquidity and transparency. This dichotomy has made private credit a poor fit for some crypto-native investors chasing high yields but demanding liquidity. Today, tokenisation and DeFi integration are bridging this gap. By representing private credit as on-chain tokens and leveraging DeFi’s composability, asset managers can boost liquidity and yield for LPs, without altering core portfolios.

In this blog, we explore how institutional asset managers can deploy on-chain structures to:

1. Solve duration mismatch in private credit,
2. Enhance investor liquidity,
3. Improve redemption mechanics,
4. Unlock higher yields via DeFi strategies, and
5. Curate risk with specialised infrastructure.

We’ll analyse recent tokenised credit funds to illustrate successes and trade-offs.

Tackling the Duration Mismatch in Private Credit

Duration mismatch plagues private credit LPs: Investors need liquidity on-demand, but underlying loans resist quick exits. Traditional funds often limit redemptions to quarterly/annual windows, leading to prorating, gating, or forced asset sales during stress.

Tokenisation aims to resolves this by moving private credit on-chain, enabling liquidity beyond loan repayments. Tokenised fund shares let LPs trade without waiting for fund redemptions. Critically, DeFi adds a "repo-like" function: LPs can use tokens as collateral to borrow stablecoins instantly, bridging timing gaps until loans mature. This provides instant liquidity without having to redeem the underlying collateral asset. An LP holding a tokenised loan fund can access cash via on-chain lending markets whenever needed, rather than waiting months for the fund’s redemption cycle.

The structural challenge remains: Without NAV-guaranteed redemptions, token prices can diverge from NAV (e.g., trade at discounts). Forward-thinking issuers counter this with prefunded liquidity facilities or reserve buffers. While private credit is inherently less liquid, even modest on-chain "exit ramps" can prevent holders from facing steep discounts or lockups.

In summary, tokenisation + strategic liquidity planning align investor liquidity needs with illiquid loans. This shrinks the risk of cash needs colliding with locked capital, dramatically enhancing the LP experience to rival liquid assets. As Pantera notes, more traditional assets are moving onchain, kicking off a compounding flywheel effect, slowly merging and replacing legacy financial rails with DeFi protocols:

This presents an opportunity to expand DeFi beyond the circular siphoning of capital, allowing broader financial activities to move onto blockchains.

DeFi Vaults: Liquidity Pipelines for Tokenised Credit

Tokenised credit assets now integrate with DeFi lending vaults and money markets unlocking liquidity without selling exposure. Protocols like Morpho and Euler lead this shift, letting LPs use tokenised fund shares as collateral to borrow stablecoins. This mirrors taking a loan against securities instead of liquidating them.

Source: Appinventiv, March 2025

Morpho’s institutional-grade vaults exemplify tailored RWA (Real-World Asset) risk management. Its isolated, curated lending pools allow third-party experts (such as Steakhouse, Gauntlet, Re7 and MEV Capital) to set collateral rules: accepted assets, loan-to-value ratios, and oracle sources. The result? LPs predominantly face specific counterparty risks, not unrelated assets in a general pool. For instance: • A Steakhouse-curated vault on Base accepts only U.S. Treasury tokens (ultra-low risk). • Another vault might blend crypto blue-chips with RWAs for balanced exposure. This lets LPs select markets matching their risk tolerance, avoiding mingling with broader DeFi risks.

For borrowing LPs, the process is streamlined:

1. Deposit tokenised fund shares into the vault.
2. Borrow stablecoins (e.g., USDC) up to a safe collateral value.

Benefits can be transformative: Tokenisation + DeFi creates a third option beyond "hold or redeem": borrow against assets for immediate cash, repay later. This operates like a TradFi securities-backed credit line, but automated, 24/7, and rule-based. Over-collateralisation and code-enforced terms ensure transparency.

Risk mitigation is equally innovative. For illiquid RWAs, forced liquidations pose challenges. Morpho’s isolated vaults and Euler’s permissioned listings seek to solve this by:

• Whitelisting participants.
• Pre-arranging backstop buyers (e.g., crypto prime brokers) for collateral.

Example: If a private credit loan liquidates, market makers buy tokens at a slight discount, holding them until redemption. This hybrid off-chain/on-chain model lender repayment and prevents fire sales. Thus, vaults become private credit repo markets: providing short-term liquidity against long-term loans, mirroring traditional bond rep

Token Design: On-Chain Redemption Mechanics

Designing the tokenised fund itself is just as important as the DeFi integrations when it comes to investor liquidity and redemption mechanics. A well-designed token can bake in features that improve how LPs enter and exit their investment positions.

A key consideration is the redemption policy encoded for the token as simply putting a fund on-chain doesn’t guarantee liquidity, you need structural alignment with on-chain expectations. Design can ensure investors aren’t locked into a narrow window and typically involves a feeder maintaining a liquidity buffer or has arrangements to meet redemptions intra-quarter. The result is a far more attractive liquidity profile for LPs: Investors accept slightly stale pricing (last NAV) for greater exit flexibility.

Another innovation in token design is the use of “liquidity provider” smart contracts or facilities that stand ready to buy back tokens. This is analogous to an ETF’s authorised participants or a money market fund sponsor ensuring liquidity. Others might arrange a revolving credit line that can be drawn to fund redemptions. All these approaches funnel to the same outcome: when an LP wants out, there’s an on-chain mechanism to get them cash at or near NAV without waiting for each underlying loan to be sold or repaid. The more seamless and reliable this redemption route, the smaller the “illiquidity discount” that investors will apply to the token.

Tokenisation is turning private credit from a closed-end, roped-off investment into something more akin to an open-end fund, using smart contracts and market mechanisms in place of traditional intermediaries.

Source: Medium, December 2023

Yield Enhancement: DeFi Composability & Looping

One reason crypto investors are attracted to bringing RWAs on-chain is the potential to boost yields through DeFi’s composability. Tokenised private credit enables automated yield-enhancing strategies, the most prominent of which is looping (a form of on-chain leverage) to amplify yield:

How looping works:

1. Deposit fund token (e.g., 8% yield) as DeFi vault collateral.
2. Borrow stablecoins (50-80% token value).
3. Buy more fund tokens with borrowed stablecoins.
4. Repeat to compound exposure.

This automated “recursive lending” is made possible by DeFi composability, allowing higher returns than the base fund yield and essentially treating a conservative credit fund like other yield-bearing crypto in a lending protocol. Importantly, the looping isn’t manual, it’s automated by smart contracts in a cycle, based on risk parameters set by DeFi vault and curators optimisation engines. The LP simply sees an enhanced yield on their dashboard, without having to actively trade or leverage up themselves. This kind of composability and automation is distinct to on-chain assets; in TradFi, achieving the same would involve margin accounts, credit facilities, and significant operational overhead. Private credit evolves from static income to dynamic yield strategy while retaining core loan exposure. This synergy of TradFi assets and DeFi innovation is exclusively on-chain.

Of course, higher yield comes with higher risk and the leverage can amplify losses as well as gains and its important risk mitigation is embedded into the design construct:

1. Conservative Loan-to-Values (LTVs) ensures collateral buffers.
2. Real-time monitoring allows vaults to adjust parameters or halt looping during volatility.
3. Private credit’s slow price changes (vs. crypto’s 50% drops) allow safer leverage management.
4. Isolated vaults ensure crypto market crashes don’t spill over to RWA positions

Risk-Curated Yield: Institutional Infrastructure for DeFi

DeFi composability demands rigorous risk management. Institutional LPs rightly ask: Who safeguards vaults, loops, and oracle pricing? Firms like Steakhouse Financial, Gauntlet, Re7 and MEV help bridge TradFi and DeFi as expert risk curators. They design strategies, set parameters, and monitor performance, enabling risk-vetted yield opportunities for specific LP profiles. Risk-curated vaults are rapidly emerging as a core infrastructure layer in DeFi credit. The total value locked (TVL) has surpassed $4.5B

This rise reflects the growing appetite for programmable RWA exposure and yield-looping strategies. As institutional DeFi scales, vault frameworks enabling fine-tuned risk management are becoming the backbone of on-chain private credit.

Source: DeFi Llama, June 2025

On-chain RWA risk curators need to prioritise primary liquidity buffers and conservative LTVs to increase solvency and vault stability. This is done via:

• Ensuring tokenised funds have redemption/liquidity support
• Set disciplined liquidation thresholds (e.g., 50-60% LTV for assets with 10% historical drawdown)
• Match LTV caps with equivalent cash buffers

Risk curators in DeFi typically prioritise primary liquidity and carefully structured LTV parameters as key tools to mitigate unexpected risks for DeFi lenders. This translates to ensuring any tokenised fund either has some primary redemption/liquidity support, and that lending markets use conservative liquidation thresholds. For LPs, it’s DeFi with guardrails, mirroring prime brokerage security.

Risk curators act as on-chain credit underwriters and advisors: creating mandate-specific strategies with continuous oversight. This merges human expertise with smart contracts and ensures institutional trust by avoiding purely decentralised anonymous risk.

Conclusion: A New Paradigm for Institutional Yield

The rise of tokenised private credit in DeFi represents a convergence of two worlds: the stable, cash-generating appeal of private debt and the liquid, innovation-rich environment of decentralised finance. For institutional LPs, this convergence offers a new paradigm where you don’t have to choose between TradFi rigor and DeFi agility. Instead, you can have a foot in both: investing in real, productive loans and businesses, while enjoying improved liquidity, transparency, and customisable yield strategies.

From mitigating duration mismatch with on-chain liquidity facilities to leveraging assets for enhanced yield, the benefits we’ve discussed all boil down to a simple but profound shift: investors can regain control and flexibility. Capital that was once “stuck” in a closed-end fund can now be more dynamically managed. Need liquidity? Borrow against your token or redeem via an on-chain facility. Want higher returns? Opt into a looping strategy or a junior tranche – all accessible through a few transactions. Concerned about risk? Choose a vault curated by a team you trust, with parameters you’re comfortable with. Capital once locked in closed-end funds becomes dynamically more manageable, transforming opaque private credit into an open platform.

Naturally, this space is still evolving. LPs must consider smart contract risk, regulatory compliance (e.g. ensuring only eligible investors in a pool), and the operational learning curve of interacting with blockchain systems and digital tokens. However, those challenges are rapidly being addressed by risk curators, regulators and the maturation of technology (for instance, institutional custody solutions and clear legal frameworks for tokenised securities).

We believe the future of private credit is being built now, on-chain. Institutional LPs who engage with these innovations early could be well-positioned to capitalise on liquid yield opportunities that simply did not exist before. The message to LPs is: get curious, get educated, and get ready because the credit repo man is coming on-chain, and he’s bringing some attractive new tools for your portfolio.

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