Why we shouldn’t spend $20m to buyback FXS
Hi, I’m strongly against this proposal and in this rebuttal I’ll present why.
Summary
- Frax Protocol shouldn’t spend 20M to buyback FXS
- It is a short term relieve, we need to build for the long term
- Frax is not profitable
- There are enough funds for the proposal, but that is not how we should spend them
1. Does Frax have enough money to fund it? Yes
There are currently 1.5 billion circulating Frax, of that number, Frax protocol (FraxP) controls:
- ~660m in stable liquidity positions (Curve, Saddle, UniV3, others)
- 120.3m accross several wallets and chains
- 8.2m lent mainly on Rari (plus 15m uncertain depending on FeiRari’s compensation plan)
- 29.2m in volatile liquidity positions (Frax/FXS on Sushi, and others)
Additionally, FraxP controls the following external (not Frax or FXS) assets:
- 569.7m in stable liquidity positions (306.7m in USDT)
- 23.8m in stable assets across several wallets (practically 100% USDC)
- 49.3m in volatile assets (20m in CVX)
- 17.6 in volatile liquidity positions (Frax/Eth, others)
When we substract the pure-stablecoin protocol owned value, we are left with 118.3m outstanding Frax that are backed with a combination of 28.2m owned Frax in volatile liquidity positions, 66.9m of volatile assets (in wallets or liquidity positions) and the algorithmic (FXS emissions) part.
To further ensure Frax’s stability, the liquidity locked for more than 1 year corresponds to:
- 4m in StakeDAO sdETH-FraxPut Strategy
- 11m in StakeDAO Frax3Crv Strategy (Possible to unlock early do migration to the FraxBP)
- 7.5m in Temple/Frax
- 4m in Frax/agEUR Uni V3 pool
- 20m in Frax/Dai Uni V3 pool
- 88m in Frax/USDC Uni V3 pool
- 1m in Vesper Orbit Frax
Totaling 135.5m in value locked for at least 1 year, and more than 90% of the just listed funds are locked for more than 2 years.
Given the present information, we can see that there is pratically zero economical risk of Frax depegging in the near term and the expenditure of 20m can be easily handled.
2. Is Frax profitable? Not really
For this analysis I will only present information of the Convex farming rewards which accounts for practically all FraxP’s revenue and the information can be accessed here.
Since September FraxP has spent 3.735m FXS in bribes, 975k in May and 2.86m in 2022, if we take the prices at the time they were spent, it corresponds to $11.4m in May.
In total FraxP has farmed 13.4m CRV and 2.584m CVX. If we look at May and the prices at which they were farmed it corresponds to $5.42m in CRV ($4.38m at the time of writing + $1.04m projected for the remaining weeek) and 313k CVX ($5.4m with prices at the time it was farmed). We can see that for May it is not certain it will break even.
From an historical POV, if FraxP sold the CRV it farmed immediately for stablecoins (which often occurred but not always, other times it was used to buy Eth for example), it would have received $44.1m + the 2.584m farmed CVX, a very good deal for 3.735m FXS, but unfortunate situations like the Luna collapse and Cream and Rari’s hacks have resulted in >$25m lost and >15m Frax currently unwithdrawable, for these reasons FraxP has to be very careful how it spends it funds in the future.
We can see that bribes are struggling to breakeven and how critical it is to be specially careful with how funds are spend. For this reason we should take a look into the present and future of Convex and Curve economics and analyze how they will evolve, and more specifically their value.
Currently CVX value comes from its high APR, which comes from the bribes it allows it holders to receive, important question now is, what happens if bribes decrease substantially? Since CVX APR would decrease significantly, we could see its value taking a hit, the situation comes down to this:
- FraxP’s high bribes are justified by Convex high yield farming
- Convex yield farming rewards comes from high CRV<->CVX value
- High CRV<->CVX comes from high bribes
We can see the cycle here, and the conclusion is that CRV and CVX will mantain their current value as long as the people sponsoring the bribes, the FXS holders, think they are acquiring-CVX-selling-FXS at a fair valuation, we just have to keep in mind that if eventually FXS holders decided to begin selling the CVX it farms or reducing the bribes, both CVX and CRV would take a hit.
Finally and unfortunately, we also have to consider that currently FraxP is distributing 20k FXS per day in its own yield farming program, so this additional expense makes FraxP certainly not profitable.
3. What does profitability have to do with buying FXS
The reason why FraxP is not profitable is because it has not found a market, its only use case is yield farming, and the ones paying for the emissions used to yield farm are FXS holders.
If we want for Frax to have a future we should be looking into building real and sustainable use cases for it, for this reason I think that any big expense should be with this in mind and using $20m to buyback FXS won’t be more than a temporary relieve and an opportunity for non-committed investors to sell their FXS. The long term investors, the ones that locked liquidity for years, won’t benefit at all from this. Most importantly this buyback does not benefit Frax at all, does not help build a market nor use cases for it, and towards this goal is how we should spend funds.
4. FraxP has been consistently buying over $2m FXS per month for the last half year
FXS1559 was introduced to buy FXS with the protocol revenue, and has beign doing so consistently, buying more than $2m monthly in FXS for several months , buybacks are fine as they are and there is no need to allocate more capital to it. Even further, these buybacks are performed with the revenue generated from Convex bribes, which means that we are emitting (selling) FXS for CRV+CVX, which is then used to rebuy FXS, seems counterproductive.
Closing
As a sumary, FraxP shouldn’t use an additional $20m to buyback FXS because: (1) FraxP can be seen as an early stage startup which has not found market yet, expenses should be focused in finding this market, (2) FraxP is not profitable, so although it is able to afford a $20m expenditure, it should be very weary of how to use it because it has a decreasing runway, (3) it is a temporary relieve that does not benefit long term investors, (4) FraxP is already spending big amounts of its revenue in FXS1559 buybacks.
Ideas of how FraxP should use its funds
These proposals are just to answer the natural question of what should FraxP use its funds for then? that arises from what I just talked about. The following are in my opinion some of the best options for FraxP:
- Follow 0xHamz proposal and deposit hundreds of millions of Frax collateral (How to sell our USDT is another topic) into uncollateralized lenders for sustainable high yields.
- Launch a Frax build program and partially subsidize protocols that build real use cases for Frax that do not rely on emissions, like StakeDAO’s Frax-Eth-Put strategy. For example if someone builds a 4% yield strategy for Frax and amasses 100m TVL, FraxP could sponsor another 4m per year, which would result on an 8% APR, but most importantly, this 100m of Frax demand means that FraxP has an additional 100m of collateral which it can use to invest in uncollateralized loans strategies that yield >6% per year.