Down the Rabbit Hole: Synthetix, The Derivatives Liquidity Protocol!
Synthetix started as a stable-coin project called Havven and was founded by Kain Warwick.
Synthetix is an Ethereum-based decentralized synthetic asset issuance protocol. The Synthetix Network Token (SNX) serves as collateral for these synthetic assets, and when locked in the contract, it allows for the issuance of synthetic assets (Synths).
The SNX token's worth is derived from the privilege to participate in the network and capture fees made by Synth exchangers.
System Synopsis of Synthetix
Synthetix is an Ethereum protocol for creating and exchanging synthetic assets. Each synthetic asset (or Synth) is an ERC-20 token that records the price of an external asset; for example, the cost of US dollar is tracked by each sUSD token. The system may theoretically support any asset with a known price and allow on-chain exposure to an infinite number of real-world assets.
Synthetix consists of a smart contract infrastructure and a system of incentives that keep Synth pricing stable. SNX serves as collateral, and minting Synths requires staking a comparable amount of SNX. Stakers are compensated for their contributions to the system by receiving a pro-rata part of the fees earned by system activity (kwenta.io). As a result, the value of SNX is inextricably linked to the use of the network it collateralizes.
Synthetix can provide immediate, near-frictionless conversion between different Synth flavors, thanks to this approach, eliminating the liquidity and slippage difficulties that other decentralized exchanges face. The resulting network of tokens supports trading, lending, payments, remittance, e-commerce, and many more use cases.
Backing Synths by SNX
Synths are created when SNX holders use Mintr, a decentralized protocol for engaging with Synthetix contracts, to stake their SNX as collateral. Synths are now backed by a 750 percent collateralization ratio, which may fluctuate in the future via community governance procedures. When SNX stakers mint Synths, they incur debt, which they must repay by burning Synths to depart the system.
Synthetix is also experimenting with Ether as a collateral option. It means that instead of selling their ETH, traders can borrow Synths against it and start trading right away. Because staking ETH necessitates a 150 percent collateralization ratio and creates a debt denominated in ETH, ETH stakers mint sETH instead of sUSD and do not participate in the system's 'pooled debt' element. Stakers of Ethereum do not earn fees or benefits in this approach because they do not take any risk in the debt pool.
Why is staking done by SNX holders?
SNX token holders are rewarded for staking their tokens and minting Synths in various ways.
For starters, there are exchange bonuses. They are created when someone switches from one Synth to another (on kwenta.io). Each trade generates an exchange charge, paid to a fee pool where SNX stakers can claim their weekly share. This cost ranges from 10-100 basis points (0.1 percent to 1%, however, it usually is 0.3 percent) and will be presented throughout any kwenta.io trade.
Staking rewards, derived from the protocol's inflationary monetary policy, are another motivation for SNX holders to stake/mint. The total SNX supply is set to increase from 100,000,000 to 260,263,816, having a weekly decay rate of 1.25%, from March 2019 through August 2023. From September 2023 onwards, there will be yearly terminal inflation of 2.5% for the left time. These SNX tokens will be delivered to SNX stakers if their collateralization ratio does not fall below the target level.
Apart from these, there are various other statistical evident showing the growth of Synthetix and its products and why people must utilize it:
- Synthetix trading volume and DEX market share for the past 24 hours are as follows:
- Here is the data of Synthetix’s unique trades per day:
- Synthetix’s daily and monthly metrics for volume and trades are given below:
Visit https://dune.xyz/drethereum/Synthetix-Metrics for more trading volume stats of Synthetix.
Debt, Stakers, as well as the pooled counterparties
When SNX stakers mint Synths, they incur a 'Debt.' Based on exchange rates and the number of Synths throughout the network, this debt can fluctuate, regardless of their actual minted worth.
For example, if 100% of the Synths in the system were synthetic Bitcoin (sBTC), the system's debt would be halved, and each staker's debt would be halved as well. It means that if only half of the Synths in the system were sBTC and the price of BTC doubled, the system's total debt—and each staker's debt—would rise by a quarter.
Stakers on the SNX function as a pooled counterparty to all Synth exchanges in this fashion, taking on the risk of the system's entire debt. They can protect themselves from this danger by taking positions outside of the system. By taking this risk and making Synthetix trading possible, the stakeholders on exchange earn a fee from the system.
Pegging Mechanism of Synth
Because traders require liquidity and stability between a Synth/s and other crypto assets to profit from trading, the Synth peg is crucial to a well-functioning system. Because certain Synths are traded on the open market, they may fall below par with the assets they follow. To make sure that deviations from the peg are kept to a minimum and that actors are encouraged to repair them, incentives are required.
The Synth peg can be maintained in three ways:
- Arbitrage: Because SNX stakers generated debt by minting Synths, they can now benefit by buying sUSD below par and burning it to pay off their debt if the peg falls, as the Synthetix system values 1 sUSD at $1 USD.
- Uniswap's sETH liquidity pool: Each week, a portion of the SNX is added to the overall supply due to the inflationary monetary policy is distributed as a reward to those that provide sETH/ETH liquidity on the platform. This has prompted liquidity providers to pool their resources to form the most extensive liquidity pool on Uniswap, allowing traders to buy Synths to begin trading or sell Synths to profit.
- SNX Auction: Synthetix is currently testing a new mechanism with the dFusion protocol (from Gnosis), in which discounted SNX is auctioned off for ETH, which is then used to buy Synths below the peg.
Synthetic assets give you access to an asset without requiring you to retain the underlying resource. It offers several benefits, including less friction when switching between assets, increased accessibility of assets, and resilience to censorship.
Compared to centralized exchanges and order book-based DEXs, kwenta.io has several advantages. Because there is no order book, all trades are completed against the contract, referred to as P2C (peer-to-contract) trading. The kwenta.io dapp assigns an exchange rate to assets based on price feeds provided by an oracle, which may then be converted. It allows for infinite liquidity up to the system's total collateral, zero slippage, and permissionless on-chain trading.
There are five types of Synths currently available:
- The fiat Synths: They include sUSD, sEUR, sKRW, and many others.
- The commodity Synths: They include synthetic gold and synthetic silver, both measured per ounce.
- The cryptocurrencies: They include sBTC, sETH, and sBNB, with more to come.
- The Inverse Synths: They inversely track the price of those available cryptocurrencies, meaning that when BTC's price drops, iBTC's price rises.
- Cryptocurrency Indexes: sDEFI and sCEX are the current cryptocurrency indexes, which follow a basket of DeFi assets and a basket of centralized exchange tokens, respectively.
- Minting Synths: When an SNX holder mints, the following processes are taken:
- The Synthetix contract verifies that an SNX staker can mint Synths with their SNX, requiring a Collateralisation Ratio of less than 750 percent.
- The Debt Register is updated with their debt. The debt is the amount of newly minted value, and it is kept in sUSD.
- The Synthetix contract informs the sUSD contract to issue the revised amount now that the debt has been assigned to the staker. It adds the new sUSD to the total supply and places it in the user's wallet.
- Exchanges: The following are the procedures that smart contracts take to perform a Synth exchange (in this case, from sUSD to sBTC):
- Burn the source Synth (sUSD), which entails lowering the sUSD balance in that wallet address and adjusting the total supply of sUSD.
- Calculate the conversion rate (i.e., the exchange rate, based on the price of each currency).
- Charge a 0.3% conversion fee, which is now 0.3% of the converted value, and send the fee to the fee pool in sUSD, where SNX stakers can claim it.
- The destination Synth (sBTC) contract issues the remaining 99.7%, and the wallet address balance is updated.
- The total supply of sBTC has been updated.
Because the system transfers the debt from one Synth to another, no counterparty is necessary to exchange.
- Claim Fees: When Synths are traded via the Synthetix contract, a 0.3% fee is deducted and delivered to the fee pool, where SNX stakers can claim it. When a staker seeks to claim their fees, the smart contract mechanism is as follows:
- The fee pool determines if fees are now available and whether the staker qualifies for them.
- The fees is sent to staker's wallet address in sUSD, and the fee pool balance is updated.
- In addition, the SNX staking rewards contract assigns a pro-rata amount of escrowed SNX to the wallet address.
The amount of debt determines the fees that each staker has issued.
- Burning debt: An SNX staker must pay back their debt to depart the system or lower their debt and unlock staked SNX. The following is the procedure for reducing debt to zero:
- The Synthetix contract determines their debt balance, and they are removed from the Debt Register.
- The required quantity of sUSD is burned, and the total supply of sUSD is updated.
- Their SNX balance can now be transferred.
- The debt pool: When an SNX holder mints or destroys Synths, the system keeps track of the debt pool. The Cumulative Debt Delta Ratio is updated to do this. This calculates the SNX staker's debt pool proportion when they last minted or burned, as well as the debt change induced by other stakers joining or departing the system. The system uses this information to calculate each staker's debt at any point in the future without keeping track of each staker's changing debt.
- The system may track each user's percent of the debt by updating the Cumulative Debt Delta Ratio on the Debt Register. It uses the formula below to compute the percent change the new loan makes to the debt pool and adds it to the Debt Register:
New Debt Minted ( Total Existing Debt + New Debt)
- The staker's most recent mint/burn activity is then noted in the Debt Register alongside their issuance data, as well as the relative index number at which it occurred. The percentage of the debt pool that they represent is calculated using the following formula:
User debt percentage =(New Debt + Existing Debt) (Previous Debt Pool + New Debt)
The Cumulative Debt Delta Ratio, the product of the calculation above and the relative time (index) at which the debt was added, is stored in the Debt Register so that it can help calculate any user's percent of the debt pool at any index in the future based on the percent shift in the debt pool caused by their last mint/burn.
- Each time an additional debt is issued/burned, the debt pool is recalculated by adding the number of tokens in each Synth contract multiplied by the current exchange rates:
totalDebtIssued = totalIssuedSynths
It calculates the current debt pool and is included in the updated Cumulative Debt Delta Ratio to inform the size of the debt at each Debt Register entry (in Synths).
When a staker pays back their debt to release their SNX collateral (by burning the Synths they generated), the system changes the Cumulative Debt Delta depending on the percent shift in the debt to be burned against the overall value of the system's debt following the debt reduction.
- When a user creates new debt, this is the inverse calculation:
user's new debt percentage =(existing debt - debt to be burned) (debt pool - debt to be burned)
- The revised Cumulative Debt Delta is calculated using the following formula:
delta = debt to be burned (debt pool -debt to be burned)
When a staker burns all of their debt, their issuance data in the Debt Register reset to 0, and they are removed from the debt pool.
- The oracle: Currently, oracles that push price feeds on-chain decide the value of all synthetic assets in the Synthetix system. It creates an aggregate value for each asset using an algorithm and data from a range of sources. Chainlink's independent node operators and Synthetix presently provide pricing feeds, but Chainlink will soon provide them all.
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