CDPs, or Collateralized Debt Positions, are placeholder tokens that represent a form of collateral against which assets can be minted. In the case of MakerDAO, ETH is used as a CDP to mint DAI tokens. CDPs are useful for token holders who do not want to realize the sale of an asset but would like to use its value for financing activities. A house, for example, can be put up as collateral with a bank to get a low-interest loan. CDPs are overcollateralized to protect lenders in the event the CDP's value falls below the value of the outstanding debt. Since the DeFi ecosystem does not have a credit score system, CDPs have a Collateralization Ratio of at least 150%.
SYNTHR will provide an opportunity for its users to deposit ETH as collateral and mint syAssets with Collateralization Ratios up to 150%. Users will be able to mint syUSD, use it to purchase other synthetic assets on the platform, lend syUSD, or deposit syUSD into vaults to earn passive yield.
- 1.Yield-Bearing Collateral
SYNTHR users will also be able to stake highly liquid, yield-bearing assets from some of the largest ecosystem projects as collateral, mint syAssets, and take advantage of several yield-generating opportunities within the protocol while continuing to earn yields on the collateral. For example, users will be able to deposit ETH/USDC Curve LP tokens as collateral to mint syUSD, then deposit the syUSD into the Stability Pool to earn yield, all while benefiting from the price appreciation of ETH and LP rewards on Curve.
2. Debt Pooling Model
There are generally two methods of issuing synthetic assets. The first method is the overcollateralized CDP model, akin to MakerDAO and Mirror Protocol. This involves minting a synthetic asset backed by an overcollateralized CDP. However, liquidity is derived from other users that have minted the same synthetic assets and have deposited them into traditional AMM liquidity pools. The main problem with this model is that AMMs are known to be low on capital efficiency. Due to this inefficiency, protocols like Mirror rely on inflationary tokenomics to incentivize liquidity providers. This inflationary tokenomics comes at the cost of jeopardizing the longevity of the protocol.
Synthetix v2 was the first to introduce the Debt Pool model, which utilizes the CDP model in a more efficient manner. When a user locks their CDP and mints sUSD, the user creates debt within the system, which the user is now a partial owner of. In this case, the debt is in the form of sUSD, which stays at parity with the US dollar. Debt Pooling eliminates the need for AMMs by allowing sUSD to be swapped with other synthetic assets within the Debt Pool without any slippage costs.
This allows traders to make unlimited swaps within the Debt Pool with a high degree of capital efficiency. However, the Debt Pool model has a few drawbacks as well. Since stakers of SNX become shareholders of the Global Debt Pool, the volatility of debt can cause unpredictable changes to the Collateralization Ratios. This is because if trader A swaps sUSD for sETH, the Debt Pool now holds sETH, which is volatile; if sETH increases, then the Debt Pool’s value relative to trader A’s collateral SNX also increases, posing a liquidation risk. Furthermore, creating synthetic assets against assets that are not relatively liquid poses a serious challenge.
The SYNTHR Protocol takes Synthetix v2 and builds on it. SYNTHR users will not be limited to staking only one asset. Users will be able to stake highly liquid assets such as USDT, USDC, or ETH. These CDPs can then be used to mint SYNTHR Protocol's synthetic assets such as syUSD, syBTC, syETH, etc. Placing highly liquid assets as collateral will greatly reduce liquidation risks and avert potential death spiral events akin to Terra (LUNA). This will also not force users to risk capital to buy an asset they might not want to hold.
However, like the Synthetix v2 Debt Pool model, SYNTHR users who mint synthetic assets will share a proportion of the Total Debt Pool, and their respective shares of the Debt Pool will be tracked by the issuance of Debt Pool Share Tokens, which will be minted alongside syAssets. An increase in the value of the Debt Pool can result in changes to the debt owed and the Collateralization Ratios. This is important because not meeting the 150% Collateralization Ratio threshold can result in CDP liquidations. To solve debt volatility, SYNTHR will natively implement a Delta-Neutral Vault and Hedge Pool, which will mimic the composition of the entire Debt Pool. By using the Delta-Neutral Vault or the Hedge Pool, users will be able to protect themselves against Debt Pool risks.
The Debt Pool Shares issued and burnt when minting syUSD or burning syUSD can be calculated based on the following formula:
Where TotalShares represents all Debt Pool Share Tokens issued, and TotalDebtPool represents the syUSD value of the Debt Pool at the time of minting or burning, to issue or burn a corresponding amount of Debt Pool Shares.
The debt percentage and syUSD debt owed can be calculated based on the following formula:
Let's consider the following example: There is $50,000 worth of syUSD in the Debt Pool, which is owned by trader A, who also owns 100 Debt Pool Shares, which represents 100% of the Debt Pool. Trader B locks his/her collateral and mints 10 syBTC worth $50,000. Let's assume that BTC is trading at $5,000. In this scenario, trader B is also issued 100 Debt Pool Shares, since the value of syBTC is equivalent to the value of syUSD already in the Debt Pool. The Total Debt Pool with a value of $100,000, now contains 10 syBTC worth $50,000 and syUSD worth another $50,000. There are a total of 200 Debt Pool Shares, 100 shares owned by each.
Based on the following calculations, we can see that traders A and B each own 50% of the Debt Pool and owe $50,000 each to the Debt Pool.
Let’s assume that BTC increases in value and is now trading at $10,000; the 10 syBTC in the Debt Pool are now worth $100,000, which corresponds to a Total Debt Pool value of $150,000 ($100,000 of syBTC and $50,000 of syUSD). Now let’s analyze the amount of debt owed by each of the participants. Since trader B owns 50% of the Debt Pool, if trader B wants to leave the system, he/she can do so by burning only 7.5 syBTC, as opposed to the 10 syBTC owned by him/her. This is because trader B owes $75,000 in debt as a result of syBTC increasing to $10,000 as opposed to his/her $50,000 worth of syUSD.
This particular scenario leaves trader B with a profit of 2.5 syBTC, while trader A suffers a capital loss of $25,000 in the form of debt owed to the system because he/she owns 50% of the entire Debt Pool. In other words, trader A will either have to partially liquidate his/her collateral, repay and burn $25,000 worth of debt, or top up his/her collateral by $25,000 to meet the C-Ratio. The trader A situation is a common problem for synthetic asset protocols that use the Debt Pool model.
SYNTHR will provide built-in Debt Pool hedging tools so users can protect themselves against debt volatility. Users will be able to deposit their syAssets into the protocol’s Hedge Pool in exchange for Hedge Tokens. The Hedge Tokens are essentially debt mirror tokens, which will mimic the overall composition of the Debt Pool by rebalancing themselves every 2 days. Unlike Synthetix v2, SYNTHR debt mirror tokens will be collateralized by syAssets. To take advantage of yield generation, the syAssets from the Hedge Pool will be deposited into the Stability Pool, thereby providing the protocol with ad hoc solvency and profiting from the liquidations of unhealthy CDPs. Referring to the earlier example, when trader B’s 10 syBTC increased the Total Debt Pool by 50%, the debt mirror token too would have rebalanced itself to reflect the 50% increase in debt. If trader A had swapped his/her $50,000 worth of syAssets for Hedge Tokens, the value of his/her Hedge Tokens too would have increased in value by 50%, or $25,000, and to prevent liquidation, trader A could have simply sold his/her debt mirror tokens at a profit to top up his/her collateral or to pay the outstanding debt of $25,000 to meet the C-Ratio.
Similarly, trader B too could be faced with similar debt volatility issues caused by the increase in the value of debt as a result of the price increase in syBTC. Such a situation may even subject trader B to incremental liquidation risks. Therefore, trader B can also use the Hedge Pool to eliminate directional risk. Since trader B minted syBTC, he/she is therefore synthetically long on BTC, and as a hedge, trader B can buy debt mirror tokens to hedge him/herself against the price movement of syBTC. If syBTC falls in value, not only does trader B’s debt become cheaper, but the debt mirror tokens become cheaper by an equivalent amount as well. And if syBTC increases in value, even though his/her debt becomes expensive, so does the value of his/her debt mirror tokens. If executed properly, traders will be able to mint syAssets, swap them for Hedge Tokens and earn rewards through various yield generation programs, all while taking no directional risk.
3. Stability Pool, Liquidations, Recovery Mode
The Stability Pool will play a pivotal role in maintaining fiscal discipline and solvency within the SYNTHR Protocol. The Stability Pool will make it possible to maintain full collateral backing of syAssets by repaying debt from the Stability Pool deposits. Stability Pool depositors will earn a return on their deposits for providing liquidity to the liquidation process.
The liquidation process will be enacted in the event the Collateralization Ratio drops below the threshold requirements and the user fails to top up his/her collateral or proportionally liquidate debt.
All syAssets will be minted at a minimum initial Collateralization Ratio, or C-Ratio, of 150%. However, in order to prevent liquidation, users will be required to maintain an absolute minimum C-Ratio of 120%.
Note: During Recovery Mode, the minimum C-Ratio can be temporarily higher than 120% to improve the weighted-average C-Ratio of the entire protocol.
The Collateralization Ratio can be calculated as follows:
For example, $30 of debt against a collateral of $100 will have a Collateralization Ratio of 333%.
Figure 2: Collateral from an unhealthy CDP is distributed to Stability Pool stakers as rewards, against which a proportional amount of syAsset is burnt from the Stability Pool to offset outstanding debt.
IIn the event of a liquidation, the underlying collateral will be liquidated, and an amount of syAsset corresponding to the outstanding debt, along with the Debt Pool Shares, will be burnt from the Stability Pool’s deposits. In exchange, the collateral from the liquidated CDP, minus a protocol liquidation fee of 10%, will be transferred and proportionally distributed to the Stability Pool participants. Since liquidations occur below the C-Ratio of 120%, Stability Pool participants will receive $120 worth of collateral for every $100 worth of debt burnt from the Stability Pool deposits, making an 8% risk-free rate of return on their deposits.
Let's consider the following example: Trader A deposits $120 worth of USDC as collateral. A C-ratio of 150% will allow trader A to mint up to $80 worth of syETH, but trader A decides to only mint $50 worth of syETH. Alongside syETH, a corresponding number of Debt Pool Shares, worth $50, are issued as well.
Let’s assume that trader A’s Debt Pool Shares (DPS) increase by 65% in value and that his/her corresponding debt is now worth $82.50. If the protocol decides to go into Recovery Mode, trader A will face the risk of being liquidated because he/she does not meet the C-Ratio of 150%
Trader A decides not to partially liquidate his/her position nor top up his collateral. Following the previous rise, the value of Debt Pool Shares increased by another 22% and is now worth $100.65. Since the C-Ratio has now breached the threshold C-Ratio of 120%, trader A's CDP will be marked for liquidation.
As part of the liquidation process, $100.65 worth of syAssets will be burnt from the Stability Pool to relieve the Debt Pool of bad debt, and $108 worth of USDC will be distributed proportionally to the Stability Pool participants. To protect the protocol from a downward spiral during volatile market conditions, the Recovery Mode will be used to urgently protect the protocol from potential insolvency. It will be automatically triggered when the C-Ratio of the protocol drops below 120%. Since this is not a desirable state for the system, the protocol will have in place multiple layers to prevent the system from going into this state. During Recovery Mode, collateral top-ups and partial liquidations will be encouraged. All CDPs, starting from the least collateralized, 120%, all the way up to 150%, will be marked for liquidation. Liquidations will continue till the protocol achieves a weighted-average C-Ratio of 130%. It is to be noted that the regular liquidation process will take into account a minimum threshold C-Ratio of 120%.