Proposal to Add DOLA/FRAXpyUSD Yearn LP Market to FiRM

FiRM
1

Summary

Following the early success of our first LPT collateral market, this proposal seeks to integrate the DOLA/FRAXpyUSD Liquidity Pool Token (LPT) from Curve Finance as a collateral asset on FiRM, Inverse Finance’s fixed-rate lending protocol. The DOLA/FRAXpyUSD LP offers unique advantages due to its stable composition, making it an excellent candidate for capital-efficient lending through stable liquidity positions that include DOLA as collateral.

We plan to deploy two distinct FRAXpyUSD/DOLA LP markets; one that adheres to the convex strategy and the market which, utilizing the same underlying LPT, aligns with Yearn’s autocompound strategy. The two markets will help us gauge demand for each strategy and potentially help prioritize future LP market deployments. This proposal pertains to the Yearn-aligned DOLA/FRAXpyUSD LP market on FiRM.

This integration will not only provide users with a new exotic collateral option but also strengthen the overall stability and utility of FiRM. The DOLA/FRAXpyUSD LP is uniquely positioned to offer low-slippage, stable swaps, and its addition as collateral will further solidify Inverse’s partnership with Curve, Frax, and the pyUSD ecosystem, as well as FiRM’s reputation as a leading platform for innovative and reliable DeFi solutions.

Background

The DOLA/FRAXpyUSD LP, hosted on Curve Finance, represents a strategic collaboration between Inverse Finance, Frax Finance, and the pyUSD ecosystem; enabling efficient, low-slippage trading between DOLA, FRAX, and pyUSD, while offering liquidity providers the opportunity to earn competitive yields. As of September 19, 2024, the pool holds $11.7MM TVL, 7MM of which is being provided by Inverse Finance’s FRAXpyUSD Fed. The FRAXpyUSD Fed, deployed in April 2024, has played a key role in stabilizing the DOLA peg.

Both FRAX, through the approval of the sFRAX market, and pyUSD, through the approval of the FRAXpyUSD Fed, had been thoroughly assessed by Inverse Finance’s RWG prior to this latest proposal.

When FiRM borrowers leverage up their LP positions using ALE, single-sided DOLA is pumped into the liquidity pool via the flashminter, creating an arbitrage opportunity due to the pool imbalance. The 200 A Parameter of the Curve pool allows the pool to level off as FRAX and/or pyUSD is added by arbitragers. This approach enhances DOLA liquidity without removing other stablecoins from the pool. As a result, lending capital efficiency is significantly improved. For example, typically for every 1 DOLA lent out and sold, the AMM Feds need to contract 2.5 DOLAs to counteract the impact on liquidity. In contrast, when 1 DOLA is lent out and added to a DOLA liquidity position, only 1 DOLA needs to be contracted, resulting in a 150% increase in lending capital efficiency.

Risk Assessment

Complete Risk Assessment - DOLA/FRAXpyUSD LP Collateral on FiRM

The RWG conducted a risk assessment (linked above) which explored the integration of the DOLA/FRAXpyUSD LPT as collateral on FiRM. This assessment combines both quantitative and qualitative analysis, covering governance, security, liquidity, and competitive factors, and considering the unique characteristics of FRAXpyUSD, the DOLA/FRAXpyUSD LP, and the broader market context. These are summarized below:

  1. Governance: Frax Finance operates under an increasingly-decentralized governance model, controlled by veFXS token holders who vote on protocol parameters and integrations through on-chain mechanisms. This governance structure has proven resilient, with multiple risk management tools and a strong track record in handling liquidity, market changes, and external integrations. pyUSD, on the other hand, is issued by Paxos, a fully regulated entity overseen by the NYDFS. Paxos ensures that pyUSD is fully backed by reserves held in cash and U.S. Treasuries, providing a high level of security and reliability. Paxos operates under a fully centralized paradigm, but its strict regulatory compliance and reserve transparency ensure that pyUSD remains stable and trustworthy.

  2. Security: Security is paramount for both Frax Finance and Paxos. Frax Finance has undergone multiple independent security audits by reputable firms such as Trail of Bits, and it also runs one of the largest bug bounty programs in DeFi, offering significant rewards for any vulnerabilities found. Paxos conducts regular internal audits and reserve attestations, ensuring the security of its assets. Paxos also maintains rigorous operational oversight to prevent unauthorized minting or freezing of pyUSD. At the same time, the Curve-related smart contracts governing the DOLA/FRAXpyUSD LP have been rigorously tested and are subject to ongoing security reviews and bug bounty programs. Overall, despite these measures, the LPT and the FRAXpyUSD component of the LP carries inherent risks users must be aware of.

  3. Regulatory Risks: As with any stablecoin, regulatory scrutiny is a significant consideration. DOLA, FRAX and pyUSD are subject to global regulatory scrutiny, especially regarding stablecoin issuance and trading. While Paxos, as a regulated entity, is aligned with current regulations, any changes could affect pyUSD’s viability. At the same time, while Frax’s increasing integration with RWAs could attract more regulatory attention in the future.

  4. Collateral & Liquidity: The DOLA/FRAXpyUSD LP is backed by three robust stablecoins, each offering deep on-chain liquidity or, in the case of pyUSD, a reliable redemption mechanism. As of September 19, 2024, the LP holds $11.7MM in TVL, with Inverse Finance’s FRAXpyUSD Fed contributing $7MM. On-chain liquidity for FRAX is particularly strong, with the stablecoin integrated into multiple DeFi protocols, ensuring its ability to maintain peg stability across markets. Additionally, pyUSD’s full backing by U.S. Treasuries and cash ensures high liquidity, making the LP well-suited for use as collateral.

  5. Competitive Edge: The integration of DOLA/FRAXpyUSD LP as a collateral option on FiRM distinguishes it from competitors. While other platforms like FraxLend have introduced liquidity pool tokens as collateral, FiRM offers distinct advantages, including a fixed interest rate of unlimited duration and the ability to leverage up/down through ALE. This stable pair LP is not currently available on other lending platforms.

  6. Oracle and Price Feed Considerations: FiRM will implement a pessimistic LP token oracle for accurate valuation of the DOLA/FRAXpyUSD LP. This process uses Chainlink price feeds for both FRAX and pyUSD and the virtual price from the Curve pool’s smart contract. First, the Chainlink price feed is pulled for FRAXpyUSD to get its USD value. Then, the lowest price between DOLA (fixed at $1), FRAX and pyUSD is selected. The LP token value is calculated by multiplying this lowest price by the virtual price from the Curve pool’s smart contract. Since we assume DOLA price to be $1 always in FiRM, essentially we use the lower between FRAX and pyUSD price * virtual_price when either FRAX or pyUSD USD price is under 1, and when it is over 1 we just use the virtual_price, ensuring a conservative and reliable estimate of the LP token’s USD value. Real-time monitoring will further support price accuracy and integrity.

  7. Liquidation Mechanisms: The liquidation factor and incentive are optimized to encourage active liquidator participation. Arbitrage opportunities with other DOLA, FRAX and/or pyUSD LPs will ensure that large liquidations do not lead to a liquidation cascade. The liquidation process will pull vault tokens, convert them to LP tokens, and then allow liquidators to realize value through balanced withdrawals, ensuring efficient liquidation routes.

The DeFi landscape is dynamic, and the RWG is committed to continuous monitoring of the DOLA/FRAXpyUSD LP’s performance as collateral. Regular updates to risk models, market parameters, and liquidity metrics will be made to study any changing conditions. This proactive approach will ensure that FiRM remains a resilient and adaptable platform, capable of managing new risks as they emerge.

On-Chain Actions

  1. Add DOLA/FRAXpyUSD LP Yearn Market to DBR contract
  2. Set borrowController of Market to FiRM BorrowController
  3. Set market supply ceiling to 10,000,000 DOLA
  4. Set daily limit in BorrowController to 250,000 DOLA
  5. Set Collateral Factor to 90%
  6. Set Liquidation Factor to 100%
  7. Set Liquidation Incentive to 5%
  8. Approve DOLA/FRAXpyUSD LP Yearn market on the DBR Helper
  9. Set Minimum Debt Amount in BorrowController to 3,000 DOLA
  10. Set stalenessThreshold for DOLA/FRAXpyUSD Yearn LP market to 86460
  11. Set FiRM Oracle price feed for DOLA/FRAXpyUSD Yearn LP to the deployed DOLA/FRAXpyUSD custom LP tokenPriceFeed contract
  12. Add DOLA/FRAXpyUSD LP Yearn Market to ALE
  13. Add DOLA/FRAXpyUSD LP Yearn Market to CurveDolaLPHelper