New Experiment of Token Issuance: In-depth Understanding of the “Lock-Up + Liquidity-Guided Auction” Model

The “Lock + Liquidity Guided Auction” model, proposed by Delphi Digital, aims to achieve fair distribution that benefits long-term stakeholders, a price discovery process that minimizes volatility, and sufficient liquidity to facilitate growth and adoption, and it is fully compliant with all major requirements of the regulatory framework.

With the introduction of a new blockchain protocol, decentralized application, or DAO (collectively referred to as the “protocol”), one of the main questions that needs to be answered is, “How should native tokens be distributed?” This is not a very complicated one question, but to find the right answer, taking all the variables into account is crucial.

New Experiment of Token Issuance: In-depth Understanding of the "Lock-Up + Liquidity-Guided Auction" Model

LLBA makes the community fairer

Fair Token Offerings should achieve multiple goals. First, there are some legal frameworks to consider, and any serious protocol should abide by the law to protect itself and the token recipient.

For example, ICOs have fallen out of favor as a distribution model because the U.S. legal framework treats an initial coin offering (ICO) as an offering of securities that can only be used by accredited investors in the U.S. A large proportion of cryptoeconomic participants are excluded from this distribution model; instead, as many users as possible should be able to participate in the fair distribution of tokens.

Second, tokens should be distributed to the “right people”. The right people are the users who are involved and generally aligned with the interests of the protocol. They are the kind of people who support the community over the long term, actively participate, and contribute value to the ecosystem. Issuers should also try to exclude token offering manipulators, such as whales (those who hold a large number of single tokens, who can manipulate the market through sheer weight) or bots (who use their wealth or speed to gain an advantage in token offerings).

New Experiment of Token Issuance: In-depth Understanding of the "Lock-Up + Liquidity-Guided Auction" Model

What do you think is fair distribution?

The third element is a price discovery process that does not seriously damage the holder’s portfolio. This requires sufficient liquidity (number of tokens at a particular price) and circulation (defined here as the percentage of tokens available as a percentage of total supply) to satisfy market supply and demand from day one.

The benefits of ample liquidity and liquidity are fairly straightforward. When a new token is released into the wider crypto-economic system through live trading, price discovery can be very volatile and can be manipulated by wealthy participants. When liquidity and circulation are low, whales have the ability to significantly increase or decrease the value of tokens.

While volatility may be a concern for the market, it is not desirable for the long-term nature of the protocol as a lot of people may be hurt during this price discovery phase and you may be hurting precisely those who would otherwise be of long-term interest user of the user.

Consider a situation where demand is high but supply is low, assuming the market is ready to buy 10% of the token supply, but only 1% is in circulation. When demand far exceeds supply, the coin’s price initially spikes. This frenzy phase can be very exciting for token holders, but with 99% of tokens not yet in the market, value is limited purely by supply and cannot be sustainable. Therefore, the long-term outlook for prices is not optimistic.

Take Yearn Finance as an example. After being criticized for being too centralized in operations, founder Andre Cronje quickly cobbled together 30,000 YFI governance tokens and airdropped them to early adopters of the protocol. Andre is quick to point out that these tokens are worthless, will not be listed on exchanges, and only allow owners to participate in Yearn’s decentralized governance. However, the market did not agree with his assessment of value.

During the “DeFi summer” of 2020, many protocols witnessed explosive returns from their community governance tokens, and the market’s thirst for YFI, the ultra-low supply DeFi token that is the most famous in the space Created by one of the developers, it’s the perfect moonshot recipe. Since the protocol is not involved in market making, liquidity is low. Initially, only those users who wish to profit from the airdrop will provide liquidity to automated market makers (AMMs). The market demand was so strong that several large exchanges listed YFI immediately after the airdrop, enabling thousands of investors to purchase the token in a short period of time.

New Experiment of Token Issuance: In-depth Understanding of the "Lock-Up + Liquidity-Guided Auction" Model

Uniswap exchange YFI token price chart in ETH

Therefore, we can see that the result of the high demand, low supply scenario is a large price increase followed by a prolonged slow decline. This hurts those involved in the hype and demoralizes community members who want to hold the token. Additionally, those who acquired tokens early on would have a high incentive to sell during the earliest manic phase, possibly resulting in no further participation. Neither aspect is desirable for the long-term prospects of a project.

Conversely, a similar outcome (downward price momentum) occurs when demand is low and supply is high, but without the initial rise. This is because prices basically only trend negative when there is ample supply and insufficient demand.

In layman’s terms, as a protocol, you want to release an appropriate amount of tokens to as many core community members as possible at an already “discovered” price (closer to fair market value). From this, you want to determine the price discovery process over time by the strengths of the protocol.

Token Distribution Model

Let’s look at a few examples of token distribution models and analyze their pros and cons.

venture capital

Considering the VC path, many protocols go through Series A, B, or even C rounds before they go live (see this cool source of VC funding information). Solana is a perfect example.

New Experiment of Token Issuance: In-depth Understanding of the "Lock-Up + Liquidity-Guided Auction" Model

More money is flowing into cryptocurrencies through VCs than ever before

The benefit of the VC route is that Solana developers have access to adequate funding from the start, but just as importantly, VCs tend to have a talent network of experts, technologists, and developers to help develop the product and provide feedback. With the help of VC funding and a network of talent, Solana’s developers were able to move the project from idea to launch relatively quickly, focusing on the protocol rather than community building.

The disadvantages of this approach are also obvious. VCs want a decent share of tokens for their investments. Considering that VCs take huge risks with an idea (Solana was little more than a white paper during its earliest funding rounds), they also hope for potentially huge upside.

Solana’s initial round was sold at 4 cents per SOL, with more than 16% of the initial tokens being sold. The next batch is 20 cents (13%) and the next batch is 22.5 cents (5%). In other words, a third of the Solana tokens in existence cost between 4 and 22.5 cents, which is a huge reward for participating VCs.

I have no problem with people getting rich. The crux of the matter is that aggressive early-stage seed investment can weigh heavily on the protocol. Unlike those who bought because they believed in the project, these whales entered the market early at a sizable discount and were therefore able to sell at any price.

For VCs, no matter how visionary they are, those 1,000x instant returns are very tempting. In fact, Solana has the largest “internal” token distribution of any popular blockchain.

Then there will be ordinary users like you and me, who will usually buy at a higher price and then be dumped by VCs that have risen 1,000 times. The result was bad, with regular users hurting and selling their chips at a loss. They are then less likely to use the platform, build upon it, and thus be less likely to help build a community of shared value.

Here’s a little background: by no means all venture capitalists or angel investors are greedy whales or full-bag market sellers. Otherwise, the crypto world will be nothing but a losing ground and only a few people will be able to make a profit. I would say that, in the most ideal world, from a protocol longevity perspective, having the token in the hands of the users who care most about the protocol is the most desirable.

The difficulty with the venture capital model is getting tokens into the hands of the “right people” without a price discount. However, the venture capital model is often a great way to start, but it’s hard to continue, and investors generally don’t like it.


Another token distribution model is airdrops. UNI in 2020, and more recently ENS, SOS, and LOOKS, have made this model quite popular. Each early user or ecosystem participant is allocated free tokens based on their ownership, engagement, or similar metric. In theory, this model is great because early users can try something and get rewarded for it.

But there are also some problems here. First, the massive airdrops will come out of nowhere, and the price discovery process will become extremely volatile. ENS is a good example:

New Experiment of Token Issuance: In-depth Understanding of the "Lock-Up + Liquidity-Guided Auction" Model

Chart showing the price of ENS tokens on the Uniswap exchange for the first two months, in ETH

Typically, airdrops are given without prior notice and therefore no advance preparation, and as a result, the community has little time to organize. These new stakeholders are expected to identify the problem and start governance immediately. This created a frenzy of energy after the token launch, but as governance difficulties emerged and the initial new energy faded, the enthusiasm behind the project soon faded as well.

While token airdrops often come with a lot of volatility and communities are hard to organize, they do have some interesting results. For example, it’s fairly easy to design a large and widely distributed token in circulation, and it’s also easy to reward the right users with their wallet interactions. After all, the blockchain stores an immutable record of these transactions. If you, as a heavy user, have used a protocol regularly in the past, it is easy to be identified and rewarded appropriately.

A potential downside of the airdrop model is the lack of a mechanism to obtain early-stage development funding. Since tokens are minted out of thin air and given away rather than sold, developers need a separate source of funding to start the project. Typically, this is done through retrospective token distribution to the development team, meaning that all work prior to the airdrop is done through hard-earned money (unfunded labor, later when the protocol is up and running will be repaid). Depending on the size or complexity of the protocol, this may not be a practical way to start.

There are pros and cons to both venture capital and airdrop token distribution models. During the project launch phase, VCs help, but there is usually an uneven distribution of tokens. On the other hand, airdrops are easier to balance token distribution, but have unpredictable price fluctuations, making it difficult to form an orderly environment.

A new competitor to the token issuance model

Locked + Liquidity Guided Auctions, or LLBAs for short. LLBA is touted as an innovative token issuance strategy, proposed by Delphi Digital. Delphi is a well-established research organization focused on serving early-stage projects using this model. If this distribution method is deemed successful, it will be emulated by other blockchain projects.

New Experiment of Token Issuance: In-depth Understanding of the "Lock-Up + Liquidity-Guided Auction" Model

Next, I will introduce Delphi’s LLBA distribution model in detail, how it works in theory, how it is implemented, and what are its advantages and disadvantages compared to other models?

Locked + Liquidity-led auctions

The “lockdrop + liquidity bootstrap auction” (LLBA) is divided into three phases. The first phase is the locking phase, also known as the allocation phase. At this stage, tokens are distributed to the stakeholders of the protocol, but these tokens are not immediately available for circulation.

The second stage is the liquidity-led auction, the stage of price discovery and liquidity building. Here, token recipients can submit their tokens to a liquidity pool consisting of startup tokens and stablecoins. The second stage is actually a two-step auction stage of market-based price discovery. This mechanism is critical for risk reduction, and we will spend more time describing this mechanism in detail later.

Finally, the third stage is the airdrop unlocking and the start of public trading of the tokens.

in short: 

1. Phase 1: Distribution

2. Stage 2: Auction (consists of two parts)

(1) Part 1: All tokens and stable deposits are accepted, only stablecoin withdrawals are allowed.

(2) Part II: No further deposits are accepted, available stable withdrawals are limited, and throttling to 0% at the end of the auction and down to zero at the end of the auction.

3. Phase 3: Public Trading

Phase 1: Distribution

Suppose a protocol with a native token “TOKEN”. Remember, the first phase distributes tokens to the users and stakeholders of the protocol. Here, tokens need to be distributed to the users who bring the most value to the protocol. How to measure this value is completely in accordance with the requirements of the protocol.

For the recently launched Astroport, tokens are distributed to users who provide liquidity in key trading pairs. For Altered State Machine, tokens will be distributed to users who hold Genesis NFTs (ASM Brains and AIFA All-Stars).

The airdrop distribution method is also regulatory friendly as it does not require a protocol to sell tokens to fund operations (ICO model). The LLBA distribution phase is similar to an airdrop in that users can earn rewards by using the protocol, owning NFTs, or providing services. This is what I think of as a backtracking airdrop. In other words, this airdrop rewards users for providing value to the protocol or ecosystem in the past. However, an interesting twist on the LLBA distribution model is that it also includes a forward airdrop, in the sense that it will reward users for long-term commitment to the protocol.

As a practical example, users who agree to lock their tokens for a longer period of time may receive a larger share. This approach is similar to the way Yearn Finance and ve (3,3) increase rewards for users who lock their respective tokens for longer periods of time, except that it applies to airdrops rather than staking programs.

The LLBA Phase 1 distribution works similarly to regular airdrops, with the added feature that those who make forward-looking commitments are rewarded for doing so. The purpose of this is to reward the right users, those committed to using the protocol for the long term.

Additionally, users who make forward-looking commitments are motivated to contribute to the protocol and the community in its early stages to help ensure its success.

Stage 2: Auction

The second stage is the liquidity-led auction. The core function of this stage is to discover the price, and secondly, to create deep liquidity at the discovered price.

Here’s how it works: Users who receive tokens during the distribution phase can choose to deposit part or all of their token distribution into the liquidity pool. Typically, this is a token/stablecoin trading pair, but other liquidity pairs can be considered. Suppose that in this example, TOKEN and the stablecoin DAI form a trading pair.

The effect of adding a token to a liquidity pool is to increase its supply relative to deposited DAI, thereby reducing the price. On the other hand, market participants who missed the airdrop (or anyone looking to buy more tokens) can add DAI liquidity to the trading pair and gain exposure to the token before listing; this improves the inference of the token price and create demand. During the auction stage, a balance of supply and demand will naturally form, establishing a fair price.

As more tokens, stablecoins are added to the liquidity pool, the TOKEN-DAI ratio will adjust to reflect the new reality. Simply put, if more tokens are added (increasing supply), the price will drop. If more stablecoins are added to the liquidity pool, the price will rise (increase in demand).

New Experiment of Token Issuance: In-depth Understanding of the "Lock-Up + Liquidity-Guided Auction" Model

The more bidders, the higher the price

In our simplified example: If the auction collects 100 TOKEN and $100 in DAI in the liquidity pool, then 1 TOKEN is worth $1. If another 100 TOKEN were added to the pool, increasing the total number of TOKEN to 200, the price would be $0.50 each. Conversely, if there are 100 tokens and $200 in DAI in the pool, the price of each TOKEN is $2.

Also, crucially, the auction phase is actually divided into two parts. In Part A, anyone can deposit as many tokens and stablecoins as possible, but can only withdraw stablecoins.

The team at Delphi explains why individuals can only withdraw stablecoins. The simple reason behind it is that it makes the pricing mechanism less complicated and therefore easier and more predictable for users.

During part B of the auction phase, the percentage of stablecoin liquidity that one can withdraw from the pool is limited over time, slowly locking this liquidity into the pool.

For example, you might be able to extract up to 50% of your DAI early in the throttling phase. It reaches 65% later, so you can only withdraw 35% of DAI. On the last day, the last hour, the throttling can reach 99% and you can only withdraw 1% of your stablecoin deposits.

In addition to this restriction mechanism, only one withdrawal can be made during this period. This is obviously to prevent users from withdrawing 50%, then 50% of 50%, and so on, thus gaming the system.

The following is a practical example of a two-part Phase 2 auction implemented by Astroport:

New Experiment of Token Issuance: In-depth Understanding of the "Lock-Up + Liquidity-Guided Auction" Model

With Astroport: Auctions are separate, Days 1-5 are Part A: Deposits, and Days 6-7 are Part B: Limited Withdrawals.

The goal here is to do price discovery in a very reasonably predictable way. And throttling and single withdrawals are there to ensure that whales cannot play token price discovery by dumping tokens into the pool or withdrawing all stablecoins at the last minute. I will discuss this more in the critical analysis subsection.

For now, just understand that the auction phase achieves a market price without price discovery fluctuations, which provides users who missed the initial allocation the opportunity to buy at a fair price denominated in the market, and inhibits the game of the allocation model by market manipulators.

Equally important, because users are transacting with other users, rather than agreeing to sell tokens to users, this is not an illegal securities sale from a U.S. regulatory perspective.

Another important thing is that participation in Phase 2 requires users to submit their tokens to the liquidity pool, which can expose users to impermanent losses, so users generally need incentives.

Liquidity providers can be incentivized in a number of ways, but generally, the fairest way is to share a predetermined number of tokens (perhaps 1-2% of the total supply) among liquidity providers. The benefit of this implementation is that it is easy to implement, rewards users proportionally based on the risk they take (fewer liquidity providers = higher returns), and there are no long-term downsides.

Of course, other incentive mechanisms can also be considered.

Stage 3: Public Trading

This part is simple: Phase 3 opens up liquidity pools to wider cryptoeconomic system participants. Historically, for important protocols, this milestone triggers a flurry of trading activity and can lead to price volatility. The LLBA model should moderate this volatility somewhat, as token holders are incentivized to lock up their airdrop rewards, and the auction phase allows for an early price discovery mechanism. This makes the market launch of the token less speculative, less volatile, and easier to enter or exit.

critical analysis

Lockup and Liquidity Guided Auctions (LLBAs) are novel and offer considerable advantages over other token distribution models.

In short, LLBA is designed to achieve fair distribution that benefits long-term stakeholders, a price discovery process that minimizes volatility, and sufficient liquidity to facilitate growth and adoption, and it is fully compliant with all major regulatory frameworks.

Arguably, the decentralization of token holders is considered an advantage of LLBA. “The potential impact of pre-launch builders on post-launch token-based governance is diluted, allowing governance to be decentralized earlier than usual,” wrote Jose Maria Macedo.

However, achieving equal distribution is not a core feature of LLBA in the sense that all issuing participants receive an equal share. In short, wealthy market participants will not buy a larger share of available tokens during and before the distribution phase, and thus can still play a huge role in the future of token economics and the protocol. Modern NFT releases make it easier to achieve broad and fair distribution.

This does not discredit the distribution in any way, as the goal is not to prevent whales from using their wealth to participate in token offerings; it is to prevent whales from manipulating token distributions. This is reinforced by rejecting token deposits after a certain time and limiting withdrawals of all stablecoins at the end of the auction phase.

To be precise: without these two parts of the auction phase, market manipulators can add large stablecoin positions to the pool during the early auction phase, pushing up the implied token price. The effect is that the token is considered overvalued (demand exceeds supply). Overvaluation, in turn, induces more token holders to deposit tokens into liquidity pools and discourages other stablecoin depositors from participating. This effectively creates a situation where market manipulators are the buyers of most tokens because they have outpaced their competitors at an early stage.

The next step is to get market manipulators to remove most of the stablecoins before the auction phase ends, thereby depressing the value of the tokens without enough time for auction participants to remove them from the pool (lower demand = more low prices) or recognize new pricing realities and add stablecoins to the pool. Another consequence of this situation is that once public trading begins, it can grant a market manipulator a lot of the same token at a significantly reduced price.

The LLBA model succeeds in suppressing manipulation by ending token deposits and limiting stablecoin withdrawals in the second part of the auction phase. In theory, this stops manipulators from causing last-minute fluctuations in token prices, so it is a step in the right direction in establishing a fair price discovery mechanism that gives all participants enough time to react.

potential downside

The LLBA model requires a lot of trust in the development team as users cannot access their tokens as part of the lock-in. Contrary to the airdrop model where all tokens are distributed from day one, the LLBA model requires users to trust that the team will not flow while their tokens are locked.

This capital inefficiency and inability to react to protocol developments, market conditions in the wider crypto economy, or other news is one of the main drawbacks of locked tokens — a risk that early investors will have to weigh in determining.

Another factor to consider when extending the lock-up period is the emergence of an over-the-counter secondary market where locked positions can be traded at a lower cost. This has a significant impact on price discovery.

To show how this is possible, I will use the recent development of DeFi Kingdoms (DFK) as an example. In DFK, users are incentivized to stake, and once they stake, newly minted tokens are unlocked over time (up to 1 year). Users found it possible to trade these locked positions OTC, especially at lower prices.

New Experiment of Token Issuance: In-depth Understanding of the "Lock-Up + Liquidity-Guided Auction" Model

DeFi Kingdoms used to be one of the most popular games in the crypto space

As more and more users became aware of this price volatility and they started selling unlocked tokens for more locked tokens, the price of unlocked tokens took a huge hit. For those looking to gain long-term value, it is much cheaper to buy locked tokens (e.g. $2 per JEWEL token locked for 10 months, and $17 unlocked JEWEL, although it is traded over the counter , I have no evidence other than hearsay). Therefore, DFK developers have proposed and passed changes to the smart contract to stop this OTC behavior.

This example shows that tradable locked positions can be detrimental to lock and auction participants. As such, it helps one keep an eye on tradable locked positions and carefully consider whether participating in locks and auctions is worth the risk.

Essentially, the trading of token derivatives such as these locked tokens creates an unexpected mechanism for price discovery. In another example, an Altered State Machine (ASM) would be launched using an LLBA, but an NFT granting users a fair share would be publicly traded on the market. This undermines some of the important work LLBA has done in price discovery and volatility suppression.

This example is not the most controversial part of the LLBA model, simply because ASM NFTs provide additional utility on top of what is needed for airdrops, in which case price discovery is not volatile. Furthermore, for savvy investors, this mechanism could provide a favorable entry point if the protocol is successful.

When considering or studying the LLBA model from an investor’s perspective, the mechanisms that determine who gets how much of the token distribution size should be critically analyzed. Any project launching an LLBA through the use of NFTs or tokens (with no additional utility) should be questioned as this could undermine the legitimacy of the LLBA model.

LLBA is a step in the right direction

Token distribution is difficult to be perfect. Distributing tokens to the right people, avoiding regulatory pitfalls, and ensuring models cannot be manipulated is a daunting task.

LLBA aims to achieve this by adding forward-looking incentives to airdrops by locking up tokens for additional rewards, hence the term “locking”. Token holders, in turn, can place these tokens into a liquidity pool where price discovery occurs from the moment LLBA enters Phase 3 open trading, a non-tradable non-trading designed to provide ample liquidity Indestructible, non-corrupt way.

However, some critical voices are also valid. For example, the LLBA model is not all-encompassing, which means that if the distribution of tokens is based on NFTs or secondary tokens with no utility, price discovery prior to LLBA may be erratic. As the DeFi Kingdoms example demonstrates, the current value of a token can be significantly affected by over-the-counter trades, which offer deep price discounts for locked tokens (similar to inverse trades in the futures market). This undermines the lock-in process and fair price discovery, negating many of the benefits LLBA originally provided.

LLBA, while complex, ultimately seems like a big step in the right direction. It provides a framework in which volatility is limited but price discovery occurs naturally. The initial circulation is large, the tokens usually go to the right users, and crucially, it does not violate U.S. securities laws.

It will be very exciting to see how the protocol will iterate the LLBA model for a successful token launch. It will be equally interesting to see where or how future implementations of the models end up failing, and how they can be improved. Once some new case studies provide more insight into the art of token distribution, it’s time for a follow-up analysis.

Posted by:CoinYuppie,Reprinted with attribution to:
Coinyuppie is an open information publishing platform, all information provided is not related to the views and positions of coinyuppie, and does not constitute any investment and financial advice. Users are expected to carefully screen and prevent risks.

Like (0)
Donate Buy me a coffee Buy me a coffee
Previous 2022-05-07 10:22
Next 2022-05-07 10:23

Related articles