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Messari: A detailed explanation of the operation mechanism and development status of Stablecoin project Frax Finance

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Why Frax Finance Governance Token rose more than 10 times last year and is one of the market's most successful algorithmic Stablecoin projects?

FRAX: A Fractional-Algorithmic Stablecoin

By Ryan Malden, Messari

Web3er Liu, Chain Catcher

DAI, founded by MakerDAO (anchored 1:1 to the DOLLAR), was arguably one of the first and most successful stablecoins. DAI was launched in 2017 and is now used across the DeFi ecosystem as a lending service or as a financial reserve Token for project parties. DAI is minted when collateral is placed into a MakerDAO protocol smart contract. To add a layer of stability, MakerDAO requires DAI to be overcollateralized, but this makes DAI less capital-efficient.

In 2018-2020, as more users and platforms adopt Stablecoin to earn revenue, and many protocols use Stablecoin to extend digital products, DAI, USDT and USDC become the more common Stablecoins in DeFi. But USDC has inherent centralised risk, relying on the US dollar, and MakerDAO's DAI was largely forged with USDC as collateral. However, the adoption of MakerDAO's DAI business and the platform itself has led industry insiders to focus on the necessity and growth potential of Stablecoin in the Web3 ecosystem.

Prior to FRAX's launch on the Ethereum main network on December 21, 2020, Stablecoin was either fully supported by collateral (such as DAI) or fully supported by algorithms (no collateral). Frax Finance first announced in May 2019 (then called Decentral Bank), the project is a fractional-algorithmic Stablecoin protocol. The project was created by Sam Kazemian, Jason Huan and Travis Moore. FRAX aims to be "the world's first decentralized Stablecoin, whose supply of tokens is partly backed by collateral and partly stabilized by algorithms."

FRAX is the first Stablecoin to combine fully collateralized (such as MakerDAO's DAI) and fully algorithmic Stablecoin design principles to create a new scalable, trust-free on-chain currency. FRAX is 1:1 anchored to the DOLLAR, attempting to maintain an exchange rate of 1 FRAX = 1 dollar.

FRAX's growth has been impressive. In the fourth quarter of 2021, Frax gained mass adoption and integration across the DeFi system with the release of Frax V2. As of January 25, the Frax project pool was funded through the team's AMO (Algorithmic Market Making Program), which was launched in early Q4 2021.Earn an average of $500,000 per day (about $180 million annually). Over the same period, the supply of FRAX climbed from less than $500 million to a staggering $2.6 billion.

Understand Frax protocol & NBSP;

In the initial phase, FRAX is 100% backed by collateral, which means that to cast a FRAX Token, you simply put the collateral into the contract in which the Token was cast. Currently, Frax is in the partial collateral phase, which means casting Frax requires putting the appropriate collateral and FXS tokens into the Frax protocol.

While the agreement is designed to accept any type of cryptocurrency as collateral, Frax will primarily accept Stablecoin to maintain low volatility and enable Frax to make a smooth transition to lower collateral rates and higher algorithm adoption. As FRAX evolves and system rates increase, it will be easier and safer to include volatile tokens such as ETH and BTC into future protocol capital pools.

The Frax protocol implements a dual Token system: Stablecoin Frax and protocol governance Token FXS. The dual-token system allows FRAX to be supported by both collateral and algorithms that manage the destruction and redemption of FXS. When the collateral and FXS are deposited into FRAX contracts, FRAX will be cast. The amount of collateral required to cast one FRAX is determined by the collateral rate. The Frax collateral rate determines the ratio of collateral to the algorithmic mechanism supporting the $1 Frax.

For example, assuming a mortgage rate of 80%, this means that a $1 FRAX is backed by 80% of the collateral (USDC, etc.) and 20% by the algorithm that manages the FXS supply. Whether cast or redeemed, Frax agreements adhere to the collateral rate, guaranteeing a dollar of value behind every dollar of Frax.

Anchoring stability is the key to all stablecoins. FRAX maintains a one-to-one exchange rate with the dollar through a deep pool of liquidity. Among them, the largest liquidity pool is in FRAX3CRV pool of Curve. To date, the FRAX3CRV pool contains approximately 1.3 billion FRAX. This deep liquidity enables FRAX to swap with other Stablecoins in a low-slip or no-slip manner. As part of the Frax V2 protocol, Curve AMO further improved the stability of Frax tokens by automatically providing excess collateral and Frax to the FRAX3CRV pool, ensuring that the FRAX3CRV pool was deep enough (see AMO below for more details).

The FRAX/FXS/ collateral price is a time-weighted average of Uniswap's relative Token pair and Chainlink's ETH/USD price. Chainlink allows the agreement to obtain the true dollar price against various tokens, not just the average Stablecoin asset pool on Uniswap. This allows FRAX to remain stable against the dollar itself, providing greater elasticity rather than just anchoring the weighted average price of other stablecoins.

Frax is a random-based protocol that allows the market to determine its collateral rate over a long period of time. Frax does not predict what the market will accept. Instead, Frax allows the rate to fluctuate, leaving the market to determine the rate needed to price each Frax Token at $1.

Token Model and Token appreciation & NBSP;

FXSToken's total supply is initially set at 100 million units. As more FRAX is used in DeFi ecology, the value of FXS holders' assets will continue to increase, as casting FRAX requires the destruction of FXS (thus reducing the supply of FXS and increasing the value of FXS holders' assets). As the value of FXS rises, so does the price stability of FRAX, creating a positive feedback loop for all those who lend or borrow FRAX to trade DeFi.

The Frax protocol also allows investors to set up Frax /FXS or FXS/ETH pools on Uniswap as liquidity providers to generate Token exchange fee income. The protocol also implements the vote escrow (VE) governance Token mechanism. This mechanism is similar to Curve's veCRV governance Token, and the Frax protocol has been modified (more on that below). In addition, Frax has developed a unique protocol feature called the Algorithmic Market Making Program, or AMO. This mechanism further encourages FXS holders to accumulate income.

Performance upgrades: veFXS and Frax V2 os&NBSP;

VeFXS and cvxFXS

Shortly after the program launched in 2020, FXS holders were allowed to lock up their FXSToken positions to generate veFXS and receive special incentives, governance rights, and AMO(algorithmic market making program) profits. The Ve mechanism is popular with several DeFi protocols. FXS holders are eligible to lock up their FXSToken positions for up to four years, and the longer they lock in FXS, the more rewards they receive. It should be noted, however, that veFXSToken is not transferable.

In addition, veFXS holders can participate in the use of the Frax weighting system and influence or direct the flow of FXS into the different Frax Token pools -- a mechanism similar to Curve and its weighting system. VeFXS users can use FXS directly with one or more Frax weights. Once the FXS are fully released, the weight machine will in turn influence the FRAXStablecoin inflation rate to continue to reward liquidity providers.

More recently, Convex has worked with the Frax protocol to further fine-tune the incentives for the two protocols, specifically locking veFXS into the CVX protocol. Before delving into this collaboration, it is important to understand What place Convex has in the DeFi ecosystem.

Launched in May 2021, Convex aims to enhance CRV incentives and simplify the CRV lock-in process for liquidity providers and stakeholders by creating an entry point to access CRV benefits through its native TokenCVX. Therefore, once Convex was launched, it began to actively absorb CRV and veCRV tokens. By early summer 2021, it was the largest veCRVToken holder in the "Curve War." Curve Finance rewards liquidity providers with CRVtokens, and governance of this protocol can affect CRV awards in different Token pools. By the end of 2021, Convex had established itself as the majority shareholder in the governance of Curve.

Since Convex was the primary owner of the veCRV Token, DeFi began to establish cooperation with Convex, In this way, Curve governance rights and related benefits are allocated to veCRV holders (veCRV holders determine the CRV incentives that different Token pools on Curve get every 10 days).

Currently, Frax holds a 19% CVX share, which gives them strong governance rights in the Convex agreement and can be considered representative of veCRV governance rights and guide the future allocation of CRV incentives.

The collaboration between Frax and Convex brings additional benefits to veFXS holders. VeFXS holders can lock their veCVX into the Convex protocol in exchange for cvxFXS. The veFXS stored at this time will be locked forever and the operation is irreversible. All cvxFXS holders will receive future FPI (Frax Price Index) Token airdrop rewards. In the future, cvxFXS/FXSToken pairs will be created so that protocols and users can swap out cvxFXS. As of now, cvxFXS pledge and reward business is still under development and has not been finalized.

Frax v2: AMO

Frax V2 introduced the Algorithmic market making module, or AMO. AMO creates a smoother process for FRAX by automating the flow of FRAX and its collateral through the DeFi ecosystem. Frax's AMO automatically transfers collateral or Frax to capital efficient locations based on collateral rates, further facilitating Frax's growth. Frax has implemented several key AMO's: FXS 1559, Collateral Investor, Curve AMO, Uniswap V3, and Frax Lending.

FXS1559 Is that all & have spent AMO The rules of the agreement must be followed. FXS1559 The function is computable. Frax Excess assets in the system that are above the collateral rate and are repurchased with such excess assets. FXS Destroy. Until & have spent 2021 Years & have spent 10 Month, stipulated by FXS1559, 50%& NBSP; The excess assets will be used to purchase and destroy FXS (by reducing supply). FXS Holder generates revenue), 50%& NBSP; Give directly; veFXS Holders. 2021 Years & have spent 10 Month, Frax Passed a bill to distribute all AMO revenues and profits to &NBSP; veFXS Holders. This change is a further incentive. FXS Holders put their FXS Locked in & have spent Frax In exchange for an agreement. VeFXS, not holding. FXS.

Collateral Investor AMO Will & have spent Frax Idle assets in the asset pool; USDC Collateral is used for a variety of purposes. DeFi Protocols, such as Aave, Compound And & have spent Yearn. The & have spent AMO The collateral will be automatically lent or repossessed as the mortgage rate changes. With mortgage rates falling and more mortgages. FRAX Collateral Investor AMO Will automatically send collateral to the said agreement, thereby providing veFXS The holder generates extra; Earnings. If mortgage rates rise and more collateral is needed. FRAX, Collateral Investor AMO Would work in reverse, mark-to-market holding. The required collateral rate, the recovery of the collateral to Frax The asset pool. Since its implementation, Collateral Investor AMO has been veFXS Holder earns; 6340 Ten thousand dollars profit.

Curve AMO Will be idle. USDC Collateral or new. FRAX Transfer to Curve. In the pool to create more liquidity and make it possible. Anchor with other Stablecoin. FRAX3CRV The pool will charge transaction fees, CRV And other & have spent LP Reward (by combining & NBSP; CRV LP Return forever; And & have spent Convex agreement). Transaction costs & NBSP; LP Rewards will be used for rewards. veFXS Holder, while. CRV Rewards will be used to enhance the liquidity rewards of the FRAX3CRV pool. With Frax AMO Similarly, as mortgage rates change, And USDC Will be from & have spent FRAX3CRV Add (mortgage rate goes down) or remove (mortgage rate goes up) to the pool to make sure. FRAX It's backed by the right proportion of collateral.

Uniswap V3 AMO (or Liquidity AMO) puts FRAX and idle collateral to work by providing liquidity at Uniswap V3 to provide liquidity for other Stablecoin transactions or FRAX exchanges. Uniswap V3 AMO can be extended to other stablecoins as well as other more volatile collateral on Uniswap V3 because of its ability to access and cast FRAX against any OF Uniswap V3'S LP pools. Transaction fees incurred by the liquidity provided by AMO can be recovered to reward veFXS holders. As with other AMO's, FRAX and collateral can be added or withdrawn from its LP location on Uniswap V3 as the mortgage rate changes.

FRAX Lending AMO Allows & have spent FRAX Placement & have spent Aave Such Token lending markets allow anyone to earn it by paying interest rather than the underlying minting mechanism. FRAX. The collateral provided in these agreements will support. FRAX. The mechanism used here is similar to that used here. Maker The & have spent D3M Functions are very similar, among them, DAI Supply expands or contracts in the lending market according to the current demand for borrowing. FRAX Lending AMO There are risks because FRAX It is backed by collateral held by other agreements, but this agreement is able to mitigate this risk by controlling the amount of tokens that can be accessed directly into the lending market.

In these & have spent AMO Collateral Investor AMO For & have spent Frax Finance Bring in most of the profits. As shown in the figure below, since 2021 Years & have spent 10 Since its implementation in January, collateral investors have accumulated a value of approximately. 7500 Ten thousand dollars profit.

At present, there are others. AMO In the works, like Collateral Hedge and &NBsp; Tornado Cash The integration. These AMO market-making procedures will also follow all of them. AMO The same principles that must be followed. Along with & have spent FRAX In more & have spent DeFi Stablecoin, AMO May continue to update iterations.

Market Overview & NBSP;

Frax Finance Stablecoin market, which is mainly composed of &NBsp; USDC And & have spent USDT Stablecoin supported by fiat money. Algorithmic Stablecoin properties have recently seen tremendous growth, in particular. FRAX, whose market cap is from NBSP; 2021 Years & have spent 10 That's up nearly half a month from now. 530%. This trend is likely to continue, as broader ecosystems require Stablecoin mobility to match their growing size. FRAX Such algorithms as Stablecoin can take advantage of their automated market-making programs. AMO Fill the gap.

However, FRAX DeFi are not the only ones intended for DeFi Stablecoin algorithm for field expansion of supply. FEI And & have spent UST Stablecoin and other Stablecoin have seen rapid growth recently. The market value hovers around About $10.6 billion. FEI In the past quarter (2021& NBSP; In the fourth quarter of 2008, The company's market value increased by about $63.5b. 50%. Stablecoins are developing and growing at a phenomenal rate, such as Fei And & have spent Rari The merger of protocols, through which the merger, Fei Will seek to exploit. Rari The lending markets regard it as a Stablecoin; Further integration into &nbSP; DeFi In the system.

With respect to algorithmic Stablecoin, the market is unlikely to reach a "winner take all" state. With the whole Stablecoin market and DeFi Product development, Frax And other similar Stablecoin agreements may maintain co-growth. From a systems point of view. Does an excellent job of maintaining anchor and demonstrates the powerful efficiency of the algorithm Stablecoin. Now, the supply has grown and is deep. Mobility, it seems, would require a catastrophic (ecosystem-wide) event to disrupt it. And other robust stablecoins.

Road maps and other partnerships;

Multichain universe & NBSP;

Frax Designed to interoperate across multiple chains, each chain is not closed. Frax Ecology. For this reason, the protocol has a bridging system that allows it to maintain tight connections and fungibility across multiple chains. The important thing is, Function and & have spent FRAX Metering systems can be deployed on different chains, allowing. FRAX Expand into new markets and chains.

As & have spent Frax What the team says: "The FRAX + FXS Token is a multi-chain protocol with global state consistency across all smart contracts. Every blockchain has a canonical. FRAX And a standard one. FXS Contracts, called "FRAX" and "FXS". These tokens are NBSP; AMO The controller expands or contracts, and the user can cast or redeem it.

FPI: Frax Price index Token

2022 Years & have spent 1 Month & have spent 1 Sam Kazemian tweeted on Sunday. The team has been working on it. Frax Price index Token (FPI), which will enable DApp to transfer & NBSP; FPI As assets tied to the algorithm Stablecoin. Not much has been revealed about the FPI project, however. The holder will receive. FPI Airdrop rewards.

Other recent partners: OlympusDAO And & have spent Ondo Finance

There are other partners, such as &NBsp; OlympusDAO And & have spent Frax Finance (OHM < > FRAX) Tokens exchanged between them to "further stimulate teamwork". OlympusDAO The team has been actively building a full of DeFi Tokens and Stablecoin vaults and can be tied to their OHM tokens. This makes & have spent OlympusDAO The ability to create a complete market for the liquidity owned by the agreement.

Another recent partnership is. Ondo Finance . The partnership was designed to create a product. Call it "Frax-as-a-Service" or FaaS. The idea is that a new protocol will be able to deposit their native tokens in &nbSP; Ondo Vaults, Frax And & have spent Ondo The assets deposited into the agreement will be compared with the equivalent amount. FRAX To create a liquidity pair. This enables protocols to immediately provide liquidity to their tokens for users and protocols to place or withdraw funds without having to set up liquidity mining procedures. As a participant, Frax Finance Will have access to the liquidity it provides. 5% annualized return.

Summary & have spent

Frax allows the market to determine the rate at which $1 Frax should be matched. As demand for Frax increases, veFXS holders will earn returns and profits through AMO market making, making full use of unused collateral. While any Token in FRAX and Web3 finance is risky, the Stablecoin innovation experiment with fractional algorithms for the FRAX protocol has proven to be an incredible innovation.

Stablecoin (DAI, FRAX, MIM, UST, etc.) with a variety of different design principles is an added value to the cryptocurrency and Web3 ecosystem as it reduces the risk within the blockchain ecosystem. FRAX and FXS have integrated FRAX into key DeFi protocols based on a long-term thinking and vision. FRAX's innovative fractional algorithm Stablecoin design allows capital-efficient Stablecoins to be created and deployed, and FRAX should be able to grow further as the overall market continues to expand.