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In-depth analysis of Opyn: Inventor of DeFi strategy

W3.Hitchhiker

2022-10-10 20:30

Read this article in 38 Minutes

Opyn’s squeeze solves two problems: roll down and convexity.

Original title: 《 DeFi Strategy Inventor——opyn 》

Original author: Yuky, W3.Hitchhiker

1. Project Introduction

Introduction:

Opyn is a decentralized option protocol platform based on Ethereum. Users can earn income through option trading or providing liquidity. Opyn allows users to buy, sell and create options on ERC20. It is an option protocol without custody and an insurance protocol without permission.

Opyn has gone through the iteration of V1 and V2, and both versions have basically failed. Now, the Opyn team has shifted its focus to a new direction, Squeeth.

Squeeth is a DeFi perpetual inheritance derivative product launched by the team. It is a perpetual inheritance investment tool that tracks exponentiation. The product is based on the concept of "perpetual" contract proposed by the famous research institution Parath on November 8.

Financing:

2.16 million dollars in 2020, led by Dragonfly

6.7 million dollars in 2021, led by Paradigm A round

Staff:

2. Strategy

2.1 Long only

ETH buys Token oSQTH on the opyn platform, the underlying asset is ETH ^2 (it is an index, gamma > 0, delta > 0)

Open position: ETH- oSQTH

Closing position: oSQTH - ETH (uni or opyn platform)

Position: Long oSQTH

Squeeth price = 10,000(_oSQTH price in USD)/(normalization factor)

Yield: Long squeeth return 2r + (r)² - funding

Example calculation:

(Read data from Google Spreadsheet link)

Note that funding The fee is paid daily (by longs to shorts), the ratio is equal to the funding on the platform, in the form of in-kind, so it is not suitable for long-term investment (because the red line will reduce the rate of return unless there is an exponential market)

2.2 Short only

This situation is more complicated;

The short position requires a minimum investment of 6.9 ETH, and the mortgage ETH chooses CR (mortgage multiple, the threshold is between 150% - 300%, and liquidation is triggered if it is lower than 150%)

Opening position: Pledge ETH, get funding rate (gamma < 0, delta < 0)

Closing position: Eliminate the contract and redeem ETH

Position: Short oSQTH

Rate: Short short return -2r - (r)² + funding + CR*r

Calculation example:

(Read data from Google Spreadsheet link)

The bearish oSQTH has negative delta and gamma, so it shows the characteristic of more declines than increases in convexity. Fortunately, the income from funding and pledged ETH can offset part of the losses (in the rising market), but there is a threshold limit of at least 6.9 ETH pledged, so it is not selective among retail investors.

Summary: We use a simple picture to describe the situation of both long and short parties

Or in the form of the counterparty:

2.3 Crab Strategy Crab Strategy (long/short strategy)

The Crab Strategy is a new strategy for the sideways period launched on opyn, and its position is: long ETH + short oSQTH (delta hedge, gamma < 0)

Dynamic adjustment (there is a derivation process here)

Equivalent to an autonomous stabilizer or buffer zone,

Essentially a short implied volatility strategy;

Yield (day): Crab return = funding—(ETH return)²

Yield (annualized): E(Crab apy) = 365funding—(variance of eth )*

The graph is as follows:

Arbitrage form of Crab Strategy: Auction

Crab auction is divided into "buy" and "sell" to balance the Crab Strategy.

Buy: Use WETH to buy the oSQTH in your hand. For users, it is selling. At this time, you need to have oSQTH Token to participate. (long eth + short oSQTH)

Sell: Exchange "extra" osqth for WETH. For users, it is buying. At this time, you need to have WETH Token to participate.

Both will have a minimum starting amount. From the perspective of users participating in the auction, for example, you can buy at least 8 osqth Token , or sell at least 10 Osqth Token , which is the threshold.

The potential arbitrage opportunity is to return to the original "buy low and sell high". For example, if you buy WETH to buy osqth sold by Crab Strategy, the purchase price at this time will generally be cheaper than the price on Uniswap at the same time, so you can sell it on Uniswap to make a profit. If you buy osqth Token on Uniswap and sell it to Crab Strategy, then you must ensure that the cost of your purchase of osqth is lower than the purchase price of Crab Strategy, so that it is profitable. Of course, you also need to pay attention to the gas fees generated by authorization and transactions, as well as the price fluctuations of Token caused by extreme market conditions, to ensure that you do not lose money.

「Participating in the squeeth crab auction」

Crab proof calculation table

If the ETH price rises, the strategy uses WETH to buy oSQTH

If the ETH price falls, the strategy sells oSQTH in exchange for WETH

Summary: From the perspective of long-term holding, the crab strategy is a negatively convex strategy with left-skewed risk; however, the crab strategy improves the entry threshold for short-sellers of oSQTH to a certain extent; in the short term, the crab auction provides short-term arbitrage opportunities, and the continuous income funding rate will improve the yield curve.

2.4 LP Business

You can choose to inject liquidity into the ETH/oSQTH currency in the uni pool

There are two ways: Buy and LP and Mint and LP

If you are optimistic about oSQTH, you can choose the Buy and LP method. Due to the nature of LP on UNI, the ETH position is not fully invested in oSQTH, so the yield curve is similar to tracking an index ETH ^1.5 (in form, it is a partial long position on oSQTH). The yield graph is as follows:

If you are not optimistic about oSQTH, you can choose the Mint and LP method. The process is to pledge ETH in exchange for oSQTH, and then do LP on UNI

covered call (writting a covered call): the position is long ETH + short oSQTH

Similarly, LP will reduce the long ETH position, and short oSQTH has the property of negative convexity, and oSQTH tracks the ETH ^2 curve. In the long run, the negative convexity effect will become more and more obvious, and the yield graph is presented as follows:

III. Highlights and shortcomings

3.1 Highlights and prospects

Highlights: opyn's Squeeth solves two problems: roll down and convexity

As shown in the figure:

The perpetual theory solves the extension problem, by having the long coin party continuously pay funding to the short coin party

Derivation of the perpetual theory: "Everlasting Options"

The square of the ETH price is used as the tracking index, creating convexity (gamma) to give it properties similar to options

Simple operations are also more universal

Prospects: More strategy combinations will attract more professionals to participate; for example: demanders of gamma hedge; or after the opyn platform opens up bear market strategies and bull market strategies, there will be more possibilities for derivative combinations (large market), as well as imagination (cooperating with other derivative platforms as derivative combinations)

3.2 Disadvantages

From the perspective of the options platform, profitability is unknown (or limited), the products produced look like options but are not options (essentially, squeezeh is just a futures index with convexity, different from straddle and strangle option strategies), and the product elimination rate is worrying (v1, v2 option products have been ignored)

From a strategic perspective: the threshold for derivatives is high and not suitable for ordinary investors to participate (few participants); the current strategy content is still too single and more like a prototype; liquidity is insufficient (the liquidity on uni is about $2 million), transaction fees (gas), price impact, and slippage are all high (about 1.5%); all strategies are short-term and arbitrage-oriented, which is not very friendly to investors who want to make long-term strategies.

Fourth, Summary

The advantages and disadvantages of the opyn platform are quite obvious.

Advantages:

The creation of the index ETH^2 and the introduction of Gamma have two changes from the market perspective:

One is to attract more professional investors to participate (more professional derivatives traders can have a wider range of choices)

One is that more derivatives combinations can appear (this combination may have its own and its own platform products, or it may be a cross-platform product) Although it is a small change, it does broaden the types and combinations of the derivatives market;

The project has good professionalism and innovation capabilities, and I am looking forward to their Bull strategy and Bear strategy.

Disadvantages:

The platform product has a high threshold for retail investors (economically and cognitively), and the increase in the number of users and popularization (promotion and teaching) are important issues for the project party;

The liquidity and depth of the UNI pool are also insufficient;

Is there a problem with transaction fees and price impact?

The term structure of the strategy is still relatively simple, all pointing to the short term;

The form is also relatively simple: currently it is still mainly arbitrage

In summary, although the advantages and disadvantages are obvious, as a pioneer of innovation, we can still give it some expectations.