frxETH v2: ushering in a new era of LSD

Original author: Poopman

Translated by: Kxp, BlockBeats

The wait is finally over, Sam Kazemian has just announced frxETH v2. Through innovative measures such as market rates, Frax Finance is taking frxETH to new heights in the LSD realm.

In the following article, I will provide a detailed analysis of the clever design of frxETH v2.

Before we begin, I would like to provide some background information. frxETH is one of the fastest growing LSDs, having accumulated over 233.4K ETH in just over a year. This exponential growth is largely attributed to the collaboration between sfrxETH and the frxETH-ETH pool on Curve.

However, in order to ensure the quality of early validators, Frax relied on internal validators in version 1. To address this issue, frxETH V2 introduces a new innovative mechanism that further decentralizes frxETH and improves the efficiency of the lending market.

I will elaborate on the following topics:

1. The basic concept of LSD.

2. Innovations of frxETH v2

3. Based on market interest rates.

4. Programmable lending market

LSD's Basic Philosophy

All LSD, from Lido to Rocketpool, share a simple concept - a lending market. Users lend ETH and receive rETH as collateral, while borrowers rent validator operational rights from the project and pay interest to LSD holders.

So far, it can be certain that the P2P staking pool lending market is the most efficient and decentralized model. On the other hand, LSDs such as stETH and rETH are essentially interest-bearing stablecoins anchored to ETH.

However, the annualized interest rate of LSD is actually limited by the cost of collateral. The annualized interest rate of Rocket Pool's Liquid Staker is 3.69%, while that of Lido Finance is slightly higher at 4.3%. This is because rewards must be distributed in a larger pool of funds before being distributed to LSD holders.

frxETH v2's Innovations

So, what are the innovations of frxETH v2?

To create the ultimate decentralized LSD project, frxETH v2 has introduced several innovative mechanisms, the most important of which include:

· Interest rates based on market and usage· Programmable lending market

Now, let's quickly review frxETH v1:

In Frax v1, users deposit ETH and receive frxETH. Users can stake frxETH for sfrxETH to earn staking rewards, or pair it with ETH-frxETH on Curve Finance for mining CRV.

In frxETH V2, users can borrow validators based on their loan-to-value (LTV) ratio. To "borrow" validators, users must first provide a certain amount of ETH as collateral (which may exceed 8 ETH), giving them the right to borrow and operate validators on Frax Finance. At the same time, the interest on the loan will be deducted directly from the user's ETH and validator rewards.

Below is an overview of the frxETH V2 architecture. For simplicity, I will only focus on the circular area in the figure:

Market-based interest rates

frxETH v2 does not use fixed fees; instead, it relies on dynamic rates based on the following factors:

The borrower can view and trade in real time with a dynamic interest rate, providing more profitable options for node operators.

Let's use an example to illustrate:

If the borrowing rate is low (due to a large number of lenders or ETH pledgers), users can borrow a validator to perform verification operations and pay interest to the lender (i.e. sfrxETH holder). At the same time, the validator can keep all bonuses, such as MEV, priority fees, and so on.

On the other hand, if interest rates soar (due to excessive demand and insufficient lenders), this will result in validators being unable to profit. At this point, users may choose:

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