Switching from veFXS to ve(FXS-FRAX LP)

General Discussion
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While the veFXS locking was beneficial in a bull market, it is currently at best net neutral and at worst net negative for the Frax protocol - but is still being paid for from the Frax protocol profits. If instead of single sided FXS staking, the whole veFXS system was designed around locked staking of FXS-FRAX LP it would be a net positive to the protocol during both bull and bear markets, and worthy of receiving the protocol profits. Let me break down my thought process on this and maybe if it seems like a worthwhile change the discussion could begin for an actual proposal.

Locking governance tokens like veFXS was a great idea when we were in a bull market. When the FXS were locked they decreased the liquid supply, causing new buyers to raise the price more than they would have otherwise. This was undeniably a good thing - however - the lessened liquidity is now coming back to bite us as every unlocked FXS holder who sells into the open market is similarly causing the price to go down more than if we’d left the locked FXS unlocked. While it’s true that maybe it’s keeping some people who locked their FXS from selling right now, generally these are the people with the highest conviction about Frax as a protocol and it’s future. And currently they have no say on the price, and price discovery is being left to the speculators who generally have less conviction of Frax’s future when compared to the veFXS lockers. So in a nutshell veFXS holders are currently extracting rents from the protocol while having a net neutral to negative impact on that very protocol. There should be a better way to do it.

Now, if instead of locking FXS those same participants had locked FXS-FRAX LP tokens then it would be a different story. The same way that the protocol is able to use Curve liquidity to maintain the price of FRAX, having locked FXS-FRAX liquidity would allow FXS to hold it’s value better when people begin selling like they have the last few weeks.

Some rough math to illustrate this point:
-The UniswapV2 FXS-Frax pair had $125M in liquidity May 1st with FXS at a price of $23.70
-Over the course of the 20 days since then about 2.5m FXS was swapped out for Frax, causing the price to lower to $6.14
-On May 1st, there was about 41m FXS locked as various forms of veFXS which at the time was worth about $980m
-If that $980m had been split into an FXS-Frax pair on UniswapV2, then absorbing a 2.5m FXS sell order would have only caused the price to fall to around $18.
-There would have been 20.5m more FXS unlocked and available to dump, but we can account for this as well. As it happened there were about 27m unlocked FXS (previously emitted but non-locked) of which 2.5m were sold through Uniswap as I mentioned.
-So proportionally that would be another ~2m FXS dumped for a total of 4.5m FXS sold through our newly beefy $980m TVL FXS-Frax pool, leading to a price of… $15.75

The result is FXS holding on to close to $1B of total value. Frax’s #1 goal is to maintain the peg of our stablecoin, but maintaining the value of our Algorithmic collateral is just as important for maintaining that peg.

Now Disclaimer #1 on all of that is that obviously Uniswap is not the whole market, but just like how Curve is the place where the most Frax liquidity resides and where price discovery takes place, if we locked that much FXS-Frax then FXS price discovery is liable to happen where the most liquidity is. Oh, and we happen to have our own AMM now so it wouldn’t even involve locking on another protocol. Just like how the Frax protocol owns most of it’s Frax through the Curve AMO and profits from people trading in and out of it, we could profit off of the trading done on FXS (which would partially get passed back to the LP stakers themselves).

There’s a couple tradeoffs with this change. Locked liquidity would be split halfway between FXS and Frax, that means less FXS locked - as in controlled by the protocol - and it wouldn’t be taken off the market completely as it is now. In a way it becomes less of a bet on FXS’s future value (at the risk of more pain if that value is lower) and more of a bet on FXS’s current value. I’m all for flywheels but for a stablecoin protocol it’s hard not to like a dampening influence on it’s algorithmic collateral’s volatility. FXS price will rise naturally with demand for Frax and as protocol profits grow, we don’t need a flywheel to pump that to the extreme. A downside would be that stakers are exposed to impermanent loss, though I’d argue we are paying them for their locked liquidity so it makes sense for them to take on some risk for it, and compared to veFXS where they’re really not contributing much to the protocol by locking vs just hodling, now they’d be actively contributing to the protocol health at all times, which is worth paying for. It’s less ponzi/apenomics and more of a sustainable approach IMO. Did I mention it would also mean a bunch more locked Frax too? We’ve seen how helpful that is recently for maintaining the peg.

The big elephant in the room is that this would be a huge change, and there’s already a number of Defi legos (cvxFXS for example) built on top of the current veFXS model. I’m not a coder so I don’t know the feasibility of a switch, though I’d argue whatever loops we’d have to jump through for it to happen now as a 10 figures protocol are much less than in the future as a 11,12,13 figures protocol.

I’d like to hear everyone’s thoughts on this because I’m sure there are elements that I’m missing, really it seems like a no-brainer to me. The veModel was made for a bull market and protocols with only one token which had no need to explicitly hold it’s value. Frax has two tokens that by design need to hold their value - why not incentivize people to help them do so?

One more note, yes I know we have an incentivized FXS-Frax UniV2 pool, but it’s incentivized with FXS inflation vs the protocol profits for veFXS, two totally different value propositions for a potential staker. And one day we will stop emitting FXS altogether while the profits are (hopefully) here to stay indefinitely.

1 Like
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there is a number of issues here.

1, your talking about unlocking 40m FXS and forcing them to sell 20m so they can relock in to an LP

this would cause a massive dump in FXS price as 20% of the supply would be dumped on the market in a very short amount of time and large protocols would be forced to sell to maintain their voting power.

2, you mention how a small amount of money makes the market move a lot when there is low liquidity, that works both ways, so increasing liquidity make it harder for price to recover back to past levels.

3, what happens to the voting power ?

4, what happens to the FXS currently paid to veFXS?

5, what happens to the unlocked FXS / FRAX lp stakers that see there rewards drop by 90% and then choose to leave the pool ?

6, what happens to the retail investors in the veFXS pool that dont want to take on the IL risk and choose to leave the ecosystem

7, you state the veFXS is net negative for the protocol but then give no real reason as to why you think that. veFXS has

attracted hundreds of millions of $ in to the FRAX ecosystem
helps us build partnerships with many other protocols
helped us decentralize our governance voting
helped us defer more power to longer term investors
attracted investors that want to avoid IL
given us a one click staking option thats simple for new users.

i do agree that trying to build up liquidity in the FRAX/FXS pool would be more ideal , but i dont think this is the way to do it.

we could
give the FXS/FRAX pool some gauge voting power, this will attract fresh investment.
give the FXS/FRAX a veFXS boost option, this will attract some veFXS stakers to add funds to the pair.
we could use FRAX/FXS as a collateral for the early stages of FRAXlend

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Hey, thanks for taking the time to respond to this, you brought up a lot of good points.

I’m definitely not suggesting unlock all veFXS tomorrow to replace with LP. In practice it could look something more like adding LP tokens as an additional way to obtain a share of the veFXS profit/voting power but value them such that 1 FXS-Frax LP gives slightly more weight in the pool per dollar value than one FXS locked by itself. It would make it economically beneficial for the stakers to switch over as their veFXS unlocks, which would at least slow down the process of FXS getting sold into the market, and allow new stakers to absorb some of the sell pressure. Also, two things to note: 1) The FXS sold would be for Frax not some other protocol’s token so the value is not leaving the Frax system - just moving into more locked Frax if anything 2)Any sold FXS would be sold into increased liquidity so less net effect than currently.

As an aside - maybe having two ways to obtain veFXS wouldn’t be a bad idea, then the protocol could algorithmically decide which to incentivize over the other and we could get more FXS locked in bull markets and more LP in bear markets. I’d like to continue the discussion about going full FXS-Frax LP though since that is a lot of complexity and discussing now would be jumping way ahead of where we’re at.

Yes, like I mentioned it would dampen volatility in both directions. I would argue less volatility is more valuable to the protocol than the current additional upside volatility that comes with more downside volatility as well. It would make less sense for the investors in FXS short term but more sense for the protocol Frax, which I think is an important distinction. We should lean into what’s better for the protocol over what helps the investors because what is lost in immediate reward is regained in long term sustainability… and sustainability is a good investment value proposition anyways (especially for a stablecoin protocol) so it should attract more investment I’d think.

I think my wording was poor, veFXS has been an immense boon to the protocol already in all the ways you mention. I think the issue is that going forward, now that people are locked in veFXS they are not actively contributing to protocol health. The sidelined FXS is just sidelined, and the rest of the market is left with thinner liquidity - leading to a more volatile FXS price. Locking FXS-Frax LP instead would have mostly the same benefits of locking FXS, but that locked money would continue to contribute to the protocol health in a way that it doesn’t currently.

With a transition like this the voting power and protocol profits would just slowly migrate over, there would be the same locking mechanic as veFXS so more conviction (longer locks) is rewarded with more votes/profit. And I don’t think the way profits are paid out would have to change significantly at all, they could still be rewarded in FXS, or instead of having the protocol sell CRV/USDC interest/etc. to FXS that make up the profits for veFXS, they could sell half for Frax and half for FXS and reward the stakers with more LP.

I think they choose to lock their stake honestly. And if we’re referring to base AMM pool profits, what they’d receive in terms of distributed profits from Frax should far outweigh what they lose. Also, the theoretical $980m of value added to the pool would outweigh the loss of $125m even if they all left. Those are May 1 numbers btw but the ratio of veFXS:FXS-Frax LP has remained similar despite the crash.

Retail investors in Frax? I don’t think there are many people who’ve found Frax and staked to veFXS who would find having to switch to LP a significant barrier for entry. Especially with Fraxswap being live at the same webpage as the staking feature now. Yes the IL risk is a legitimate concern though as I mentioned originally, it’s a different value proposition for a potential staker than veFXS is currently but not an entirely undesirable one - as we can see by the number of stakers currently locked in the FXS-Frax Uni pool. Personally, I’d rather see my staked money contribute to protocol health compared to just taken off the market to do nothing with as it is now. Adding a Frax component to the stake would attract more conservative investors who like having a less volatile balance sheet earning yield even if it causes us to lose out on some of the mercenary capital looking to maximize yield. As an analogy, this moves FXS away from a growth stock held for gains and towards a value stock held for dividends which, again, makes sense to me for a stablecoin protocol.

I like your other ideas for increasing FXS-Frax LP as well btw, they would definitely be worthwhile exploring if this is deemed too big of a change. Ultimately, the current FXS-Frax LP pool locked in Frax is running on FXS emissions that will taper then run out in a few years so we should be looking for ways to hold onto that locked liquidity. It should at least be given a gauge.

The reason I tend towards a bigger change rather than just a gauge addition is because in terms of value to the protocol, locked FXS-Frax LP is certainly more valuable than locked FXS, and probably more valuable than much of the other gauge options as well (there’s definitely an argument for the locked stablecoin LP pairs being more valuable but locking Frax-USDC LP for instance for governance rights doesn’t make much sense to me). Rewards being distributed proportionally based on value to the protocol is undeniably a good thing to strive for and this would allow us to reward our more valuable liquidity with more profit.

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well , i dont think its a bad idea and generally speaking i would rather we paid rewards to something that has a benefit to the overall ecosystem rather then just paying people to hold an asset to stop them selling it.