TradFi vs. DeFi Derivatives by Matthieu Gavaudan

foreign [Music] cool uh hey everyone uh I'm gonna give a quick presentation slash talk on the status quo of derivatives uh traditional Finance centralized finance and uh you know what we can expect to have going forward in D5 as well as a company I co-founded called infinity pools so this is kind of a hot take but all Futures markets constraints can be traced back to a single problem which is liquidation risk essentially all constraints that are self-imposed by Futures exchanges are simply constraints that are there to do risk mitigation in case liquidations are not done efficiently enough so margin trading well Futures are really at a super high level um various different variations of margin trading right so like Futures and margin trading at a very very high level work very similarly and as a result also have a lot of the same constraints so how does it work right well to go long ethereum for example a Trader starts by borrowing cash right like this is usually USD or usdc or whatever the trader then swaps that cash for ethereum uh thereby entering a long position if the price goes up everything is good you know they can't sell that like ethereum for the underlying USD uh at any point they want they don't really have any time limitations but if the price starts to drop right if the price works against them that they have essentially a very very limited amount of time to actually liquidate the ethereum in time to repay the cash loan right so think about it this way when you've got uh 10x leverage on a margin trade you need to be able to sell um your the ethereum at when there's a 10 10 price move against you but then you also need to be able to sell that ethereum uh in time to actually be able to pay back the USD cash loan right foreign so why doesn't that work and why is that actually really really bad well quite simply there's no guarantee that Traders can liquidate assets efficiently enough to cover their original cash loan right like usually that that comes uh either under the form of bad debt or um and we'll talk more about that but essentially there's simply no guarantee that somebody can sell ethereum for USD fast enough to pay back the original USD uh loan So In traditional Finance the crazy thing that I think most people in crypto and like that have only interacted with perps don't really realize is that these margin calls can take up to three to four days right so imagine that you're getting liquidated and instead of getting liquidated immediately you get a phone call that says hey you need to top up your collateral you've got three to four days well what happens if the price drops you know over the course of three or four days then all of a sudden um you know um you you can't solve that ethereum that that you bought for the original USD loan and the problem with traditional finance and it's a really really big problem is that um they have something called unlimited liability which means that in case uh the price drops more and you know there is bad debt uh they can actually come after your personal assets um crypto very cool with Perpetual futures uh there's limited liability right uh once you get limit you you can only get the funds that you have on the actual exchange uh that that get taken away right like they can't go after your personal assets but it also means that um these liquidations are pretty much done instantly it's also the reason why you'll actually find that leverage in crypto is higher than traditional Finance right once again it's literally just because traditional Finance it takes three to four days to liquidate you uh in crypto it takes five seconds um and you know for Perpetual futures the the constraint comes into under the form of uh liquidation penalty right so Liquidators when they need to take your position and essentially uh you know uh sell it right sell the ethereum for USD what they do is that they've got a one to three percent margin of error to actually do that right so they can afford to have up to three percent of Market impact before um The Exchange uh the Traders end up with bad debt um even worse is uh for long tail assets right so you know long to assets I don't know how many of you trade coins but uh liquidity is not great um what that means is that liquidating uh coins without significant Market impact and I'm talking uh you know more than like one to three percent is extremely hard if not straight up impossible which is also why you do not have a single protocol so far that's really been able to offer perps on the long tail of assets um and one last thing I'll mention is that even for large market cap assets like ethereum if the position is big enough the market impact can go beyond uh three percent um if you really have to like sell it all in a very short time period right and um I don't know once again how many of you are big time Traders but um if you you know go on binance and you have like a position that's several millions of dollars you'll actually see that your leverage gets reduced from whatever like 50x to actually one or two x so this is uh once again limitation uh because of liquidation risk um and one last thing I'll talk about is what happens when there is this bad debt right like I talk a lot about this bad debt but how is that actually like a bad thing well when you have enough bad debt that accumulates you have something that's called the force settlement of markets essentially what happens is that markets get paused right the Perpetual Market on which your trading gets paused profitable Traders don't get paid out on their position right so like if we're talking about uh the long e position that I was talking about earlier if that if doesn't get liquidated to USD fast enough right and you can't pay back that USD uh uh loan then what happens is that the short traders that were actually correct don't get paid out on their position um and obviously market makers also get wrecked and so does the exchange so it's a lose lose kind of situation which is also why you have like all these like constraints right like these these are not like things that exchanges want um so another question that I get right like for the status quo of derivatives and traditional finance and even in crypto and D5 is what about options well fragmentation across expiries and Strikes for options actually make markets uh very illiquid I don't know how many of you know that Robin Hood for example makes most of his money on options because uh you know once again markets are really good so you can charge a bigger fee with market makers and it also results in a worse ux for Traders right like Traders need to think upfront about okay what is the time frame of my trade and also you know how high do I think this asset is going to go which is obviously much worse than perps where you just have a big long button uh 10x leverage and you just a pen right it's like the friction is is much worse which once again is why I think retail loves perps versus options and in crypto so it's kind of like recap some of the constraints that exchanges have in order to mitigate um you know liquidation risks you have limited Leverage you have a few assets right you only have perps on a subset of like available assets and finally you have liquidations and one thing that I haven't really talked about is how do liquidation penalties actually um affect expected uh expected returns for Traders um so we actually uh at infinity pools we actually um ran tests using simulated data and we noticed that for a trade over a week we have a sharp of one right so this is a correct directionally correct trade Beyond 15x leverage Traders can actually expect to lose money so layman's terms even though you are correct on the direction of your trade if you leverage up Beyond 15x with perps you're actually expecting to lose money um and this is because of liquidations so this is kind of a part where I start to like show my own protocol um and fame pools solves all of these problems essentially by solving one very simple problem um or you know it does so by guaranteeing the liquidity to make sure that all Trader positions on an exchange close perfectly so if you kind of remember the way that like margin training works right um you borrow cash you sell you sell that cash for ethereum and then uh you know you you when you close out your position you need to um essentially liquidate that if you're in back to cash and training pools Works differently uh because instead of borrowing a single asset what you're actually borrowing is liquidity and specifically in crypto uh what we mean by liquidity is uh for example if usdc LP token once you've borrowed that if usdc LP token you can redeem it you know for usdc uh given that like it's it's underneath as long as you know it's underneath the market price you can swap that usdc for ethereum using any Dax aggregator and if the price moves against you well the lp is expecting back ethereum anyways um so you you have that liquidity there that's uh there to essentially act as the liquidation for you um and essentially what that means is that um Traders pay an interest rate up front um Two LPS and it kind of like a streaming options premium to keep their position open so how does that actually work right um Traders guarantee that they can close their position perfectly by borrowing liquidity up front add the bankruptcy price or at the price or uh where for example with perps they would have gotten otherwise liquidated and essentially you can think of it as uh borrowing a limit order or a no slippage stop loss against Switch when the price moves against you well it's no problem because you can close out your position against this limit order that you've borrowed so what does that enable well um but uh quite a few things actually um when we launch our V1 and you know like our test net is coming like this month so rv1 main AD should be next month um we're going to be able to offer unlimited leverage um I'm talking thousand X on most pairs or more uh 10 000 X on eqsdc um sorry on uh Euro on Forex pairs like Euro usdc um no liquidations so Traders will be able to keep their position open as long as they are paying an interest rate uh streaming interest rate on their position and uh zero counterparty risk so very much like uniswap and all of this is a completely oracle-less implementation um yeah so no first settlement of markets no bad debts no oracles oh and on any asset so um we're gonna be the first leverage swap protocol to actually be able to offer extremely high levels of Leverage on the long tail of assets um similarly um you know the way it's going to work on you know infinity pools is a two-sided Marketplace so on one side you've got traders that get all that good stuff liquidity providers very similarly also get a bunch of perks number one to get higher yields because um essentially the way that like we price the interest rate is that it's very similar to a combination of Black Shoals plus utilization rate Avi style and essentially there is a volatility Arbitrage that allows any arbitrary to push the uh the yields up to at least uh realized Vol and you know for those that know a little bit like how options work that means that in the worst case scenario when that volatility Arbitrage is being done LPS do not lose money or like they do not have an expectation of losing money um and this is with zero trades on the platform um with additional trades we expect for the yields to be at Option premiums if not above the second thing that's pretty cool is that we're going to be the only protocol where you can generate yield continuously that means that you can generate yields on your liquidity even when it's out of range so you know you can deploy I don't know liquidity between 800 and 900 if the market price of ethereum is a thousand dollars you're still generating yield on that liquidity and the last thing I'll add is that because yields are paid out on a continuous basis from leveraged traders to uh our LPS um there is no advantage to coming in for a single block depositing liquidity and claiming a majority of the rewards essentially this is a just-in-time liquidity uh proof yield so pretty cool for MAV resistance thanks and uh I'll take questions now if you guys have any this is really interesting I mean honestly it's really brilliant idea because it's beneficial for the lp providers and for the Traders and souls from many um many soft spots of the current current the access paid verbs but my question is do you how do you launch so you will have this you will have your platform the visual will enable taking or busy providers so or are you going to integrate on top of the existing it makes sense just curious so how like what is your user experience and the presence sure okay so I what I'm hearing is uh probably you're talking about this slide right where I talk a little bit about swapping if you're in for uh swapping like you know the the usdc that you've redeemed yeah okay cool um so first of all um I'm gonna say that um we've obviously abstracted all of this away in the UI ux um the UI ux is going to look exactly like trading perps um obviously with much higher levels of Leverage and no liquidations but um and then like kind of like a uniswap style um stuff for for choosing assets but essentially the reason that we can um use a Dax aggregator here is because these transactions are done atomically right so um once you borrow liquidity um you know if you sdclp token you redeem it for the usdc that backs it and once again this is like liquidity that's below the market price so it's fully backed by usdc you redeem it for the usdc and then essentially on the protocol you need to always have at least that much usdc that's available so what happens is that you can use an atomic transaction here it's a swap that usdc to ethereum to uh yeah basically get um get the ass sorry that was unlike realizing this is a little bit complicated but um yeah basically you can use a atomic transaction to swap that usdc for ethereum and get it get it on the exchange and essentially the protocol doesn't care um if you have usdc or ethereum for that specific pool as long as the combination of your assets in that pool amount to a certain you know threshold amount um I can explain more in depth afterwards um I think we've got like four other questions uh here um I've got 30 seconds left so maybe can take one more um otherwise just come find me I'll be right there huh one more all right thank you cool hat uh I appreciate it man for those who can't see it it says math on it anywho um I was a little late running the talk but I'm curious uh how do you attract liquidity consistently especially in derivatives when usually liquidity can be scarce so uh price can get erratic yeah um that's a great question um you know actually one of the main question one of the main questions that I always get on Twitter is oh you know our liquidity provider is going to be uh compensated fairly for the liquidity that they provide on your protocol right like what are you what are you doing to make sure that like you know they don't lose money like and I I honestly think that people have kind of been traumatized by unity free and that respect um I have the exact opposite concern which is that liquidity providers are going to be compensated too much um essentially as I said you know you've got a volatility Arbitrage that makes sure that you know at the very least they don't lose money but then with any extra trades um you know you actually get really really good yields um and one thing that we've noticed is that retail doesn't really tend to care that much about like interest rates and specifically um you know just because they're kind of used to you know when when you go fosinex on like an asset you're just kind of like okay well like I'm paying one percent you know so what um but that actually turns out to be a lot of yield for LPS um so yeah I fully expect that people are just going to recognize that this is a really good opportunity to make money great question uh yeah I think I'm a minute over so I'm gonna exit but uh thanks everyone for listening and uh yeah um let me know if you have any other questions