In-depth discussion of the development of algorithmic stablecoins from the three major stablecoin mechanisms

As of October 4, 2021, the entire DeFi lock-up volume has reached 194 billion U.S. dollars. Among the public chains , the lock-up volume applied on Ethereum is 133.46 billion U.S. dollars, accounting for 68.8% of the entire DeFi, occupying absolute dominance. position, and a stable currency as a basis for assets and intermediary underlying support from the ecological development of the whole world DeFi, the current stable currency market value has reached $ 129.4 billion, the daily trading volume of $ 73.5 billion.

Stablecoins can be divided into over-collateralized stablecoins (such as DAI ), fully-collateralized stablecoins (such as USDT ), partially-collateralized stablecoins (such as FRAX), and algorithmic stablecoins (without collateral, such as AMPL). According to its anchoring objects, it can be divided into fiat currency anchored stable currency (anchored 1 US dollar) and illegal currency anchored stable currency (anchoring target will continue to change).

In the context of the rapid development of DeFi applications, the scale of stablecoins is also getting larger and larger, and it will inevitably face regulatory issues. Since the beginning of this year, the Federal Reserve and other government financial regulatory agencies have stated on many occasions that stablecoins may be included in the scope of supervision, and even more stringent is to manage them as banking institutions. The first to bear the brunt is the legal currency anchored stablecoin (especially USDT) , USDC and other fully mortgaged and anchored $1 stable currency), under its mechanism, the huge amount of assets held by the treasury, such as U.S. Treasury bonds, corporate bills, etc., pose a great challenge to the stability of the traditional financial market. Therefore, more and more projects have begun to explore illegal currency-anchored stablecoins, that is, they do not anchor any fixed exchange rate target (such as 1 U.S. dollar). The target currency value of the stable currency is floating relative to the U.S. dollar. Through complex algorithms, volatility is reduced. , To gain stability. Among them, the new generation of algorithmic stablecoins OlympusDAO, Reflexer, and Float are the most representative. This article will explain the mechanism of these three stablecoins in detail and discuss the development of algorithmic stablecoins in depth.

OlympusDAO: Algorithmic stablecoin with strong scalability

OlympusDAO is a relatively alternative project among algorithmic stablecoins. In terms of mechanism, it is not linked to any target exchange rate or digital assets, but it has certain assets as support. The current supported assets are mainly stable coins DAI and FRAX. The agreement stipulates that there is 1 DAI or FRAX behind each OHM as the value Support, in the future, it is expected that supporting assets will continue to expand to other mainstream digital currencies in order to achieve reserve diversification.

Olympus adopts a single currency system. The stable currency is “OHM”. The agreement uses bond modules and pledge modules to issue stable currencies and regulate market supply and demand, achieving rapid growth in scale. After OHM was issued in March this year, its circulating market value Has reached 2.1 billion US dollars, occupying the first position in the algorithmic stable currency, but behind its huge market value, it is the large fluctuation of the token OHM price, but because most of its additional OHM has flowed into OHM holdings Someone’s pockets, from the perspective of market value, Olympus has indeed achieved steady and rapid growth in the value of its holders’ assets.

Olympus’ bond module can be simply understood as the user’s application for OHM at a certain discount to the system. Currently, the system accepts OHM-DAI LP tokens ( Sushiswap ), DAI, LUSD, wETH, OHM-FRAX LP tokens ( Uniswap ), FRAX, and five Kinds of tokens are used as subscription funds. After the subscription is completed, the purchased OHM will be gradually unlocked during the 5-day lock-up period. After unlocking, users can choose to sell OHM directly or pledge OHM to earn higher income.

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

OHM Bond Module (Source: http://www.olympusdao.finance)

The bond exchange price follows the formula:

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

Among them, BCV is the bond control variable, which is controlled by the agreement. The execution price of the bond is inversely proportional to the amount of bonds issued, and directly proportional to the OHM liquidity. The smaller the OHM liquidity, the higher the discount for purchasing OHM, which encourages participants to purchase bonds.

Another core part of the project, the pledge module, plays a vital role in the operation of the entire system. The agreement provides more than 7000% APY to users who pledge OHM. The realization of such a high rate of return mainly relies on the compounding of investment every 8 hours (compounding 3 times a day). Different from traditional income farming or pledge projects, all users who pledge OHM will initially receive the same amount of sOHM tokens, which can always be exchanged with OHM at a 1:1 ratio. During the pledge process, the system directly adjusts the user’s sOHM. Holding amount, so that participants can realize compound interest reinvestment without having to harvest. On the other hand, the pledge income mainly comes from the agreement income on the bond side. For example, suppose that the current market price of OHM is US$920. After a user purchases an OHM bond at 900 DAI through the bond terminal, the agreement will issue 1 OHM to the subscriber. Because the agreement stipulates that only 1 DAI is required behind one OHM as the value. Support, so the agreement can issue another 899 OHM, and these 899 DAI actually constitute the profit of the agreement, 90% of which will be minted into new OHM as the income to the pledger, and the remaining 10% will flow into the DAO. According to this mechanism, it can be found that the higher the market price of OHM, the stronger the profit and additional issuance capacity of the agreement.

Through the pledge and bond modules, the agreement has greatly stimulated users’ speculation. A positive feedback loop has been formed during the operation of the mechanism, and the system has a strong ability to expand the market value. As long as the price of OHM is higher than 1DAI, this part of the profit OHM can be issued as the income of the pledger, and the higher the OHM price, the theoretically the pledger can get more income, which will attract more users to participate in the pledge, reduce the selling pressure on the market, and increase the market at the same time. The demand for OHM and the increase in the price of OHM have further strengthened the system’s additional issuance capabilities. At present, 93% of the OHM circulation in the market is pledged in the agreement. Therefore, it is not surprising that Olympus, which was launched only in the first quarter of this year, can reach a market value of $2 billion in a short period of time. However, behind the system’s superior issuance capabilities are relatively weak currency prices and high volatility. From a mechanical point of view, substantial additional issuance will inevitably have a certain negative impact on the token price, and the system itself has only a one-way mechanism ( There is only an inflation model, no deflation model), OHM’s ups and downs are inevitable.

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

OHM market capitalization (source; Coingecko)

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

OHM price (source; Coingecko)

In addition to the algorithmic stable currency, the project is also actively using the advantages of the project mechanism to expand. On September 30, the agreement officially launched the OlympusPro module. This is a service that uses the native bond module of the protocol to issue tokens. Olympus will take a 3.3% service fee from the issuance service to further increase the asset strength of the treasury. The first project to cooperate with it will be Pendle. The distribution of the entire token will last for 8 weeks. Users deposit PENDLE/ETH LP tokens into the Olympus bond module, and they will be able to obtain PENDLE tokens at a certain discount, which is expected to be distributed. A total of 3 million PENDLEs. Compared with other IDO token issuance models, participants will not suffer impermanence losses. For token issuers, by recycling LP tokens, the fund pool can always maintain continuous liquidity and stable scale, avoiding Many IDO capital pools have dried up shortly after the issuance of liquidity.

OHM adopted a fair start-up method when it was first issued. It distributed 50,000 tokens to early community participants on Discord at a price of $4. A total of more than 300 people received an average of 141 OHM tokens, so in order to motivate the team And to support future project financing, the agreement issued the token pOHM, which agreed that pOHM holders can exchange 1DAI+1pOHM for 1OHM. In principle, pOHM is similar to options , mainly for teams, communities, investors, etc. “Exercise” has certain restrictions, that is, the number of “exercises” within a period of time cannot exceed a certain proportion of the current OHM supply, thus forming a long-term incentive effect.

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

pOHM token distribution (source: http://www.olympusdao.finance)

From the perspective of Olympus’s entire mechanism, when the OHM price rises, the scale of the agreement will continue to expand, but once OHM begins to fall continuously and the pledged chips begin to loosen, the agreement may fall into a self-negative feedback loop: OHM prices continue to fall, leading to The capacity for additional issuance of the agreement has weakened, OHM pledge income has decreased, market selling pressure has increased, and demand has decreased, further suppressing OHM prices. In this case, the agreement treasury and DAO’s asset reserves will be the only force to save the entire system. The agreement may need to continuously increase the pledge income through the accumulation of asset reserves and additional issuance capacity in the process of declining pledge capacity, reduce selling pressure, and interrupt the negative feedback loop.

In the past process of issuing OHM through the bond module, the agreement absorbed a large amount of assets. At present, the agreement treasury has assets worth more than 200 million US dollars. Combining the current OHM issuance volume, it can be found that the agreement has not used enough additional issuance capacity. According to the current status of the treasury, the agreement can maintain more than 7000% APY for more than 200 days. In addition, through the bond module, the agreement also absorbs more than 95% of the liquidity of the two capital pools, OHM/DAI and OHM/FRAX, so that the size and stability of the capital pool are greatly guaranteed, and it also indirectly contributes to the overall system Stability played a positive role.

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

Treasury Asset Market Value (Source: http://www.olympusdao.finance)

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

Assets held by Treasury and DAO (Source: http://www.olympusdao.finance)

The currently issued OHM of the agreement is 2,464,987, the value of backing assets (RFV) is $56,352,537 (assets such as ETH are not currently included in the RFV), and the value of the assets behind each OHM is $22. If you also consider other assets in the treasury such as ETH , The value of the assets behind each OHM is $48, which is a very large discount to the market price of OHM of $920. Therefore, the entire system still has strong expansion capabilities. In theory, the agreement can issue additional 53,887,550 OHMs. Correspondingly, higher pledge income can be provided.

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

RFV asset value (source: http://www.olympusdao.finance)

Due to the unique mechanism design of the project and the revenue of the agreement, it is the core and final line of defense of the system. If measured from the perspective of total project revenue, OlympusDAO is currently one of the most profitable projects. In the ranking of total project revenue in the past 30 days, Olympus is the name Ranked third, second only to Axie Infinity and Opensea, leading the DeFi projects, including Uniswap, AAVE, etc. From the perspective of agreement revenue (project party/financial treasury), Olympus is second only to AxieInfinity, ranking second among all applications.

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

Total project income (Source: Tokenterminal)

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

Agreement income (project party/treasury income, source: Tokenterminal)

Strictly speaking, OHM cannot be called a stable currency because its price is actually unstable, but it tries to liberate people’s concept from the traditional dollar standard and advocates that investors should not care about the price of OHM in their hands. , And should pay more attention to whether the number of OHM in hand has increased or decreased. However, in fact, the original intention of most investors to participate in the project is only for the extremely high rate of return of the agreement and the speculative nature of the currency price, while OHM is fundamentally It lacks the attributes and functions of the most basic accounting and payment medium for stablecoins.

Reflexer: one of the most stable algorithmic stablecoins

Reflexer is an algorithmic stablecoin project on Ethereum. It was founded by Ameen Soleimani and Stefan Ionescu in 2020. In the two rounds of financing so far, it has attracted the attention of leading VCs, including Paradigm, Pantera, etc.

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

Project financing (source: Crunchbase)

The agreement is a dual-token system, using ETH’s over-collateralization model, through the behavior of arbitrageurs, to maintain a stable price. In mechanism, Reflexer is very similar to the stable currency DAI, but its stable currency RAI does not anchor a fixed exchange rate or index. In the process of market fluctuations, its target price will continue to change. The agreement sets the target price as the redemption price (Redemption Price), which is initially set at 3.14, which is also the price at which users pledge ETH to the agreement to cast RAI or burn RAI. The redemption rate is equivalent to the interest rate, according to the formula:

Redemption rate = Kp X (redemption price-RAI TWAP)

Wherein RAI TWAP time weighted average price RAI i.e., using the past 16 hours RAI / ETH (UniswapV2) and ETH / USD (from Chainlink ) calculated. The project party determined the value of the parameter Kp through a large amount of data back-testing and simulation test. The changed target price is reflected in:

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

When the market price of RAI is higher than its target price (redemption price) at a certain moment, the redemption rate will be negative, so that the redemption price will gradually decrease. In this process, arbitrageurs can mortgage ETH to the system and mint RAI is then sold at a higher market price for gains. At the same time, as the number of RAI destroyed to the system is reduced (the cost of destruction is higher), the supply and demand of RAI will change, thereby driving the market price of RAI to the redemption price. , This is a process of continuous dynamic balance.

When the market price of RAI is higher than its target price (redemption price) at a certain moment, the redemption rate will be negative, so that the redemption price will gradually decrease. In this process, arbitrageurs can mortgage ETH to the system and mint RAI is then sold at a higher market price for gains. At the same time, as the number of RAI destroyed to the system is reduced (the cost of destruction is higher), the supply and demand of RAI will change, thereby driving the market price of RAI to the redemption price. , This is a process of continuous dynamic balance.

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

System mechanism (source: Reflexer.finance)

The protocol adopts the idea of ​​PID controller, which is a common feedback loop component in industrial control applications. By comparing the collected data with a reference value, and then using this difference to calculate a new input value, the purpose of this new input value is to allow the system’s data to reach or maintain the reference value. Different from other simple control calculations, PID controller can adjust the input value according to historical data and the occurrence rate of difference, which can make the system more accurate and stable.

The PID controller is composed of a proportional term, an integral term, and a derivative term. The proportional term considers the amount of deviation, the integral term considers the deviation time, and the derivative term considers the speed of deviation growth or reduction. After a large number of simulation tests, the current project only considers the most The safe and simplest proportional term is used as the initial start-up plan of the project.

The protocol governance token is FLX, with an initial total of 1,000,000, which will be used to manage the protocol and ensure the security of the system. The user pledges FLX/ETH LP tokens on Uniswap v2 to the agreement to obtain certain income, but will act as a system protection role. Once the mortgage rate is insufficient, the agreement will auction LP tokens (up to 30% of LP tokens in the pledge pool) Can be auctioned), used to repurchase RAI to increase the mortgage rate. In addition, FLX is also the lender of last resort to the system. When the system is in crisis, the agreement will cast FLX for auction.

The project pursues minimal governance and has formulated a clear roadmap:

1. The target date is April 17, 2022. At this stage, the governance of clearing, auction and taxation mechanisms and many other core contracts should be minimized. This means that from now on, only a few parameters in these contracts are controllable.

2. The target date is August 17, 2022. For all core contracts except the oracle and saviour contracts, and based on the edge conditions found in the production environment, the PID controller should minimize governance. This means that from this point in time, only a few system parameters should be managed. More importantly, at this stage, all remaining governance should be handed over to the community.

3. At this stage, the project team intends to allow the community to fully operate the project. The community should decide when, how, and whether any remaining components can be further out of human control.

The stable currency RAI currently has a circulating supply of 17,525,475, a market value of $53,039,029, and a price of $3.02. After the initial large fluctuations, the price has maintained a relatively stable state. The agreement lock-up amount (ETH) is $152,067,183.

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

RAI price and redemption price (Source: Dune Analytics)

The market value of RAI has always been in a relatively sluggish state. There may be several reasons: First, because the market was at a high level when the token was issued, the price of ETH has undergone a substantial adjustment afterwards. Because ETH is the collateral of the agreement, its price is low. Large fluctuations will have a great impact on mortgagers. In addition, the agreement lacks more measures and ideas for ecological expansion. Currently, 30.7% of RAI is distributed in UniswapV2’s RAI/ETH pool, and 23.6% is in AAVE. 17.8% borrowed in Rari FusePool, and the potential benefits of the three are relatively low. For users, there is a lack of application scenarios and the benefits are not attractive. Naturally, there is no incentive to pledge ETH to lend RAI.

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

RAI distribution (Source: Dune Analytics)

From the perspective of RAI’s usage activity, it is not ideal. RAI’s trading volume has dropped significantly from the peak when it was first issued. Compared with Olympus’s strong market value expansion capabilities, RAI’s market value has continued to shrink.

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

RAI transaction volume (Source: Dune Analytics)

From the perspective of token stability, RAI is undoubtedly successful. Its 90-day volatility is much lower than that of OHM and AMPL, the originator of the algorithmic stable currency. However, at the same time of stability, the protocol mechanism inhibits speculation, and there is no corresponding ecology and application. The coordination of the scene resulted in a stable price, but it was not embarrassing for anyone to use.

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

Comparison of some algorithmic stablecoins

Float: A newly emerging algorithmic stablecoin

Float is also an illegal currency anchored stable currency based on Ethereum. The stable currency FLOAT initially set a target price of $1.618. The protocol adopts a dual-token system. The governance token BANK plays a key role in regulating the FLOAT price. When the FLOAT price deviates At the target price, BANK will absorb the excess premium or support the value of FLOAT.

The agreement only supports ETH as collateral. Before the initial FLOAT issuance, users can exchange ETH for equivalent FLOAT. The agreement calls the collateral composed of ETH a basket. In the initial state, the total value of the basket is the same as the total value of the minted FLOAT. The value is equal. The Basket Factor is defined as the ratio of the basket value to the FLOAT value calculated at the target price, which is an important reference indicator for the system to carry out macro-control.

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

The agreement will monitor whether the time-weighted average price (TWAP) of FLOAT is equal to the target price every 24 hours. If not, the system will conduct an auction (Dutch style). During the auction, the price will gradually decrease (Dutch style) or gradually Rising (anti-Dutch style), relying on arbitrageurs to push the price closer to the target price. Each auction will last for 150 blocks. The project plans to increase the frequency of auctions in the future, gradually transitioning from every 24 hours to canceling the fixed auction time, and auctions will be organized by participants.

Assuming that when FLOAT TWAP is higher than the target price, the system will enter an inflation mode. By issuing additional FLOAT, absorbing ETH and governance token BANK, increasing market supply, thereby depressing the FLOAT price, the starting price of the auction is FLOAT TWAP +10%. In the process, the price will gradually drop to the target price, and participants have the opportunity to obtain FLOAT below the market price, thereby earning arbitrage income, and the 10% increase is mainly to prevent oracle attacks (FLOAT/USD uses Chainlink to feed price). When the FLOAT TWAP price is lower than the target price, the system enters a deflationary mode. By recycling FLOAT, the market supply is reduced and the FLOAT price is raised. This process is a reverse Dutch auction, with a starting price of TWAP-10%. All BANK and FLOAT recovered by the agreement during the auction process will be destroyed, and ETH will enter the treasury and become the reserve asset of the agreement.

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

Protocol auction mechanism

In the auction process, three tokens will be involved, namely FLOAT, BANK and ETH. The system is designed with a relatively complex mechanism. Through different compositions and proportions, it plays a role in adjusting the basket factor and maintaining the health of the system. state. The following is a specific example to illustrate. Assuming FLOAT TWAP=$2, the target price is $1.5, and the auction transaction price is $1.7, when the basket factor is greater than or equal to 1, the participant will use $1.5 worth of ETH and $0.2 worth of BANK to exchange for FLOAT, and when the basket factor is less than 1 At that time, participants need to use relatively more ETH for auctions so that the basket factor can rise. Under the following six scenarios, auctions conducted during deflation will increase the basket factor. Only when the basket factor is greater than 1 and inflation is adjusted, the auction will lower the basket factor. From a certain perspective, the basket factor can be understood as the mortgage rate of the system, which measures the health of the agreement.

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

Examples of auction asset composition

The target price of the agreement is a constantly changing value (floating anchor). The initial value is $1.618. When FLOAT TWAP is higher than the target price and the basket factor is greater than 1, or FLOAT TWAP is lower than the target price and the basket factor is less than 1, the target price Will be adjusted according to the model. The project team used the model to backtest the trend of ETH (collateral) in 2020, and the results showed that the overall target price will gradually rise as the market rises.

According to the agreement model formula:

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

Where mt’ is the target price at the next moment, mt is the target price at the current moment, fA is the auction frequency, T is the target price adjustment time, and b is the basket factor. When the value of ETH in the basket rises (maybe due to the continuous rise of the ETH price), and When the system is in an inflation situation, the target price will gradually rise, so the value of the stable currency FLOAT is also indirectly linked to ETH to some extent.

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

Backtest based on market trends in 2020

The project governance token BANK also plays a key role in the agreement. When adjusting inflation, it is a premium absorber, which absorbs the premium of FLOAT relative to the target price. When deflation occurs, BANK will play a role in supporting the FLOAT price. Absorb the market’s selling pressure on FLOAT. The initial total number of BANK is 168,000, and inflation may be issued after one year. The current market value is more than 24 million U.S. dollars, which is much larger than the market value of the stable currency FLOAT.

In terms of the volatility of stablecoins, FLOAT is relatively successful, but FLOAT also has the same problems as RAI. Both protocols use ETH as collateral or supporting assets, and the protocol’s mechanism design greatly limits its scalability. Due to the price performance of ETH, in addition, the lack of ecological development of the project party has caused the market value of stablecoins to continue to shrink, and no more people are willing to use it for value storage or as a medium of exchange.

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

FLOAT price and target price (Source: Dune Analytics)

Starting from the three major stablecoin mechanisms, in-depth discussion on the development of algorithmic stablecoins

BANK and FLOAT holders (Source: Dune Analytics)

Summarize

As a branch of stablecoins , algorithmic stablecoins are often considered to have no roots. After Ampleforth , more and more algorithmic stablecoins have begun to try the partial mortgage or mixed collateral model, and they have indeed achieved tokens. Stability of prices. As a currency experiment, the illegal currency anchored stable currency actually puts the hope of cryptographers to get rid of the shackles of the traditional US dollar and build a real cryptocurrency world. However, in terms of current development, illegal currency anchored stablecoins have the following problems:

  • Based on traditional concepts, the transition from the U.S. dollar system (or currency system) to the illegal currency system (floating) in people’s lives and financial activities not only requires a conceptual change, but also has great difficulties. This is essentially This restricts the development of illegal currency anchored stable currency.
  • At present, most illegal currency-anchored stablecoins can more or less realize the function of asset reserves (price stability or market value stability), but they have encountered difficulties in ecological expansion. Projects such as OHM have achieved stable growth in the value of the holder’s assets, but in terms of mechanism, this realization process is inseparable from the holder’s speculative and pledged links, plus the large fluctuations in the price of tokens and free circulation. The amount of money is scarce, and it is not a good choice as a payment medium.

With the continuous development of DeFi, an algorithmic stable currency whose market value can continue to grow to meet market demand while achieving a relatively stable currency value and independent of the legal currency system will be the common pursuit of the crypto world. The illegal currency anchored stable currency described in this article may seem to be a distant experiment, and there is no clear successful case at present, but it may be the best bet for the industry to get rid of the traditional dollar.

Posted by:CoinYuppie,Reprinted with attribution to:https://coinyuppie.com/in-depth-discussion-of-the-development-of-algorithmic-stablecoins-from-the-three-major-stablecoin-mechanisms/
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