How DFract works
Last updated
Last updated
Treasury : all the underlying assets owned by the DFract Protocol (e.g. $ATOM, $OSMO …)
Protocol Owned Liquidity (POL) : a DeFi protocol that owns its own liquidity, as opposed to a debt-based protocol. It enables a mechanism that backs the price and the liquidity of the native token - in our case, the $DFR
Backing price : the theoretical price floor for $DFR, calculated by dividing the treasury value by the $DFR circulating supply
Bonding : mechanism where users sell an asset (e.g. $USDC, $ATOM…) to buy $DFR tokens. $DFR tokens remain liquid on the secondary market, however it is important to note that unlike the bonding on other DeFi products, there is no swap back to your original asset.
Staking : staking $DFR grants users a share of the rewards that the Protocol generates by delegating its treasury (the underlying assets) to validators
The DFract Protocol is a Protocol Owned Liquidity (POL). It means that the treasury belongs to the Protocol and the holders of the Protocol’s tokens. The role of the POL is to grow and rebalance the treasury so that every stakeholder can benefit from it. A “bonding” mechanism will be used. This means that the Protocol will mint $DFR tokens for depositors, who in exchange will provide other assets from the Interchain (e.g. $ATOM).
When users receive $DFR through the Protocol by depositing their tokens, it allows the Protocol to accumulate liquidity to secure longevity and price stability for everyone involved. The more deposits are received, the deeper the liquidity pools on the secondary market (e.g: decentralized exchanges) can be.
This deposit mechanism allows users to bond specific tokens : the ones that have been whitelisted by the Protocol in return for $DFR. The Interchain tokens grow the treasury through the staking rewards generated by running validation nodes, maintaining a sustainable APY and rewarding $DFR stakers (will be explained in the Tokenomics section).
With the tokens received from the bonding process, the Protocol will organically generate yield by:
Delegating its treasury
Operating validator nodes
(1) Delegating the tokens of the treasury will give $DFR holders a share of the value created by the protocols from infrastructure opportunities. Moreover, by delegating its treasury, the DFract Protocol will participate in securing the networks it invests in, thus benefiting the DFract community and the underlying asset’s native network itself. In a nutshell, stakers of $DFR should outperform a holding strategy as their capital will be compounded and accrue value.
Note that 100% of the tokens owned by the Protocol will be put to work by frequently and automatically compounding staking rewards as they come.
(2) Operating its own validator nodes will enable the Protocol to maximize the staking rewards (no commission paid) and therefore maximize the value of $DFR for every holder. As DFract is a decentralized protocol governed by its community, the operational management of the infrastructure for the validator nodes shall eventually be conducted by persons and/or companies elected by the $DFR holders.
From the user's point of view, the Protocol will be composed of two distinct parts, the bonding and the staking:
The bonding
Users deposit their tokens of the Interchain to the Protocol.
Users get $DFR tokens of the Protocol.
The Protocol becomes the owner of the liquidity called treasury.
The staking
In order to receive the staking rewards created by the treasury, the users will be able to stake their $DFR in the Protocol.
There will be no possibility for the users to "redeem" the bonded tokens because they become the exclusive property of the Protocol. Users can exchange the native token of the Protocol on a decentralized exchange (DEX) such as Osmosis to exit their positions at a price set by the market. It is important to note that the $DFR remains liquid on the secondary market.
The backing price of the $DFR will be defended by an inverse bonding mechanism (see the Backing price and Inverse Bonding Mechanism section hereafter).
❗In this section, all the numbers are made up for illustration purposes
The DFract Protocol will hold valuable tokens in its treasury. It can be said that the Protocol is “backed” by its underlying assets (the treasury). This creates a theoretical price floor for $DFR that is also called the backing price.
With the given convention:
: n quantities of tokens owned by the DFract Protocol
: n Market Prices for the corresponding tokens
: $DFR Circulating Supply
: $DFR Backing Price
The backing price can be expressed as follows:
Example 1
Let's assume that DFract encompasses only 3 tokens:
is 100 ATOM, is 200 OSMO, is 50 JUNO
is ATOM Market Price at 10 $USD, is OSMO Market Price at 1 $USD, is JUNO Market Price at 3 $USD
The backing price can be calculated :
BP_{DFract} = 1.35 \hspace{3pt}$USD
The market price for the $DFR token is expected to be above the backing price, as it captures the value of the underlying assets, plus the value of the rewards that will be generated, plus other intangible assets (branding, UX…). However, in practice it is possible to have sell pressure that drives down the market price below the backing price. Note that DFract is a debtless Protocol. In this situation the Protocol would have more value in its treasury, than the $DFR circulating supply at market price.
In a situation where the market price drops below the backing price, the general idea would be to activate $DFR swapbacks. In other words, the Protocol would be buying with a discount tokens that are worth a tangible and verifiable value (the sum of the underlying assets’ value divided by the circulating supply of $DFR). Beyond the obvious opportunity for the Protocol, this is intended to boost investors confidence in case of adversarial market conditions.
The swapbacks would then be stopped at or above the backing price.
Example 2
Let’s take these 2 hypothetical assumptions:
The treasury owns 100 millions $USD worth of digital assets
There is 20 millions $DFR in circulation
Therefore, still in this example, the following can be stated:
The minimum market capitalization of the Protocol should be 100 millions $USD
The backing price of one $DFR is $5 (the result of 100 M $USD / 20 M $DFR)
If the market price of one $DFR falls below $5, the Protocol will activate the inverse bonding mechanism
In a Protocol Owned Liquidity (POL) such as DFract these swapbacks are triggered by the activation of the inverse bonding mechanism. It consists in allowing the Protocol to buy directly from $DFR holders at a price that is between the market price and the backing price. The transaction price is called Inverse bonding price and if inverse bonding is activated, it can be mathematically compared:
Important note : The Protocol itself is not price aware. The community can activate the inverse bonding via a governance proposal. This section describes the technical process behind this community driven decision. Moreover the inverse bonding mechanism is not a static “direct redeem” mechanism.
The inverse bonding's ultimate goal is to remove sell pressure from the market. The inverse bonding mechanism is designed to increase the backing per $DFR by reducing the amount of $DFR in circulation. At the same time, the treasury will acquire $DFR for an amount that is below the known backing price. So in theory if the Protocol were to be liquidated instantly, it would still profit from the price gap.
The $DFR tokens acquired by the Protocol in an inverse bonding event are burnt. Profits generated by the price gap are kept in the treasury.
The inverse bonding premium is used to calculate the price at which the Protocol will swapback $DFR. The inverse bonding premium is a parameter that can be adjusted by the community through a governance proposal. When inverse bonding is activated, the inverse bonding price is calculated with this formula:
The inverse bonding price would never exceed the backing price, because at this point it would be a net drain on the treasury.
Example 3
Let’s focus only on the pricing part in this example with these 3 hypothetical assumptions :
$DFR market price drops suddenly at $100
$DFR backing price is at $120
The Inverse bonding premium is set at 5%
The inverse bonding mechanism is activated.
Therefore you will be able to sell your DFR at $105 ($100 * (1+5%)) to the treasury, instead of $100 to the market, thus removing the selling pressure from the market.
Example 4
Let’s look at the whole mechanism with these 3 hypothetical assumptions:
$DFR market price drops suddenly at $3
$DFR backing price is at $5
The Inverse bonding premium is set at 33%
The inverse bonding mechanism is activated.
Therefore you will be able to sell your $DFR at $4 to the treasury ($3 * (1+33%)), instead of $3 to the market, thus removing the selling pressure from the market.
For the treasury this is net gain because : it buys an asset that represents $5 of value (backing price) for $4 (inverse bond price). The Protocol just made a 1$ profit ($5 - 4$ = $1)
This mechanism therefore increases the backing price of each $DFR thanks to:
The token burning : the $DFR token that has just been bought by the Protocol will be burned in order to reduce the supply and increase the backing per token.
The profit sharing : the 1$ profit generated by the operation will be put back into the treasury for the benefit of everyone that holds $DFR
